Tech
What does it mean to burn cryptocurrencies? Practical applications
What is cryptocurrency burning?
Cryptocurrency burning is the process in which tokens (also called coins) are removed from circulation, reducing the number of coins available. Tokens are sent to a wallet address that cannot be used for transactions other than receiving coins. The tokens can no longer be used because the coins’ private keys are stored in an inaccessible wallet.
Key points
- “Burning” a cryptocurrency refers to the act of sending a token to an inaccessible address.
- Wallet addresses used to burn cryptocurrency are called “burner” or “eater” addresses.
- The act of burning effectively removes tokens from the available supply, reducing the number of them in circulation.
- Burn is used in some blockchains to increase the market value of coins, and in others, it is used to confirm a miner’s commitment to the network and grant them the right to mine a block.
Understanding cryptocurrency burning
Cryptocurrency users are assigned a publicly visible address that is used to send and receive coins. You can think of the address like an email address: you can send and receive emails from anywhere you can access. A cryptocurrency address is similar: the cryptocurrency network recognizes that address as yours (although your information isn’t used) and uses it for transactions. This is your wallet address.
Cryptocurrency is “burned” when a coin is sent to a wallet address that can only receive coins. These addresses are also called “eater” or “burner” addresses. Cryptocurrency wallets store the keys that allow you to access your tokens; once the keys are sent to a burner wallet, they cannot be accessed or recovered – the tokens are lost forever.
Practical applications for burning coins
Removing a good from circulation to adjust its availability and value is not a new concept. For example, central banks change the amount of currency in circulation to adjust the purchasing power of that currency. There are a few other practical reasons to burn cryptocurrency.
Intentional burns to increase value
Publicly traded companies buy back shares to reduce the number of shares In circulation. Generally, this practice is intended to increase the value of the shares while increasing the financial performance of the company. Unfortunately, it doesn’t always work as expected and sometimes has the opposite effect. Shares are also bought back as a method of control: Companies can use this tactic to prevent a hostile takeover, which is the act of purchasing shares to establish majority and, therefore, ownership of the company.
There is no evidence yet that burning cryptocurrency tokens automatically increases the value of that specific cryptocurrency. It decreases supply, theoretically increasing demand, which in reality represents investors’ and users’ beliefs and feelings about how markets will react to a decrease in supply.
By reducing the number of coins in supply, entities are eagerly hoping to make tokens more valuable and less accessible by controlling the coin supply and maintaining or increasing the value of their holdings. Some cryptocurrency developers intentionally burn tokens to perform these tasks.
Burn test
Test Burn (PoB) it is one of several consensus mechanisms used by blockchains to ensure that all participating nodes agree on the true and valid state of the blockchain network. A consensus mechanism is a set of protocols that use multiple validators to agree that a transaction is valid.
PoB is often referred to as a proof-of-work system with no energy waste. It works on the principle of requiring miners to burn tokens to gain the right to mine for the blockchain and receive a reward. Using this process, there is no competitive mining, which is what causes the PoW system used by Bitcoin to consume so much energy.
To burn coins, miners send them to a burning address. This process doesn’t consume many resources, other than the energy used to extract the coins before burning them. Depending on the implementation, you can burn the native currency or the currency of an alternative chain, such as Bitcoin. In exchange, you can open a block and receive a reward in the blockchain’s native currency token.
Is burning cryptocurrencies good or bad?
Burning cryptocurrencies takes tokens out of circulation. Similar to corporate stock buybacks, it can benefit the cryptocurrency or backfire, depending on investor and user sentiments and how new supply and demand dynamics affect prices.
How do you burn cryptocurrency tokens?
Tokens are burned by sending them to a wallet address that cannot be accessed. This removes them from circulation or “burns” them.
Why do companies burn cryptocurrency?
It reduces the circulating supply, theoretically increasing demand and affecting the price of the currency.
The bottom line
Cryptocurrency burning is the act of sending tokens to a wallet that cannot be accessed. Usually, the holder’s wallet can generate a burner address to send the tokens to. This creates new private keys that belong to the burner’s wallet – no one has these keys, so the coins become inaccessible. This is usually compared to burning physical forms of money, which is why it is called burning.
Burning removes coins from circulation, reducing the circulating supply of that cryptocurrency. This is believed to increase demand, causing an increase in value. It is sometimes used as part of a blockchain’s internal processes, but usually it is market manipulation disguised as an act for the good of the blockchain, the currency, and the community.
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