Token Burn

Token burn is a cryptocurrency term used to describe the process of removing a number of tokens permanently from circulation by transferring the tokens to a burn address (or burn wallet) where they can never be retrieved. ^[1] The purpose of token burning can vary, but it is often done to reduce the total supply of a cryptocurrency or token, which can have implications for factors like scarcity and value.

Overview

Token burning refers to the deliberate reduction of the total supply of a cryptocurrency by removing a certain quantity of tokens from circulation. This deliberate reduction of a coin's total supply is intended to potentially drive an increase in the value of a particular digital asset through increased market demand.^[3]

The process of crypto burning can be integrated into a project through various approaches, including automatic and built-in mechanisms, a one-off event, or scheduled routine maintenance.^[3]

The choice to initiate crypto burning may be documented in a project's whitepaper before its launch, explicitly detailing the intention to gradually reduce fractions of its supply over time. Alternatively, the decision to burn crypto could be subjected to a community vote, allowing the decentralized autonomous organization (DAO) to collectively determine whether or not to proceed with the burning process.^[3]

There are four main burning methods:

ICO burns
Circulation burns (VeChain, Tron)
Out-of-circulation burns (EOS, Stellar), and
Gas fee burns (XRP, ETH with EIP-1559)

ICO burns are typically done for unsold ICO tokens. The difference between circulation and out-of-circulation burns essentially boils down to whether or not the tokens were burned before ever coming into existence. Gas fee burns are written into the code and burn a small amount of crypto along with each transaction.^[15]

Token Burn Examples

Ether (ETH)

Ethereum has adopted burning mechanics as a strategy to facilitate the migration of users from its previous proof-of-work (PoW) network to its new proof-of-stake (PoS) network. Through the implementation of EIP-1559, an update launched in August 2021, Ethereum is able to burn a portion of the Ether tokens collected as transaction fees during the process of verifying transactions on the network.^[6]

Shiba Inu (SHIB)

Another example of a cryptocurrency implementing a burn mechanic is the meme coin Shiba Inu (SHIB). In April 2022, the developers of Shiba Inu introduced the SHIB Burning Portal, which offers participants the option to burn their SHIB tokens. In return for burning their SHIB tokens, individuals receive another token called burntSHIB. This token, in turn, provides rewards in the form of the ERC-20 token RYOSHI.^[6]

Binance Coin (BNB)

Beginning in 2017, cryptocurrency exchange Binance initiated a practice of conducting quarterly burns of its Binance Coin (BNB). The exchange has pledged to continue these burns until approximately 50% of the total supply of BNB has been withdrawn from circulation.^[8] Binance Coin incorporates a burn function that allows any cryptocurrency holder to execute it with ease by specifying the number of coins they wish to eliminate from their wallet. The process involves a smart contract initially verifying if the required coins are available in the holder's wallet. Once confirmed, the specified coins are subtracted, and the total count of coins in circulation is automatically adjusted.^[2]

BNB Chain has completed its 24th and third quarterly BNB burn in 2023. The burn includes the Auto-Burn as well as the Pioneer Burn Program. Here are the facts and figures from the latest burn as of July 2023:^[9]

Auto-Burn (Total BNB burned): 1,991,854.33 BNB
Approximate value in USD: ~$484,160,000
BNB burned from the Pioneer Burn Program: 747.51 BNB
Real Burn (Auto-Burn - Pioneer Burn): 1,991,106.82 BNB

BNB Real-Time-Burn

The network will burn a fixed ratio of each block’s gas fees based on BEP-95 that validators collect. The exact ratio will be determined via BSC’s governance mechanisms. The burns will take place even after BSC has reached its target goal of 100 million BNB. By reducing the supply of BNB, upward pressure is placed on the coin’s price. The Binance Evaluation Proposal (BEP) may also decrease the amount of BNB delegators and validators received. However, with upward price pressure, the fiat value could also increase, offsetting any reduction in coins.^[10]^[11]

BNB Auto-Burn

The BNB Auto-Burn provides an independently auditable, objective process. The figures are reported quarterly, and the mechanism is independent of the Binance centralized exchange. On top of that, BNB Chain continues to burn a portion of BNB Chain’s gas fees in real-time using the Real-Time-Burn mechanism.

BNB Pioneer Burn

The Pioneer Burn Program also permanently removes an amount of BNB from circulation equal to provable lost funds by eligible BNB Chain users. This number is then counted towards the total quarterly burn figure.

Frax Share or FXS is a utility and governance token whose role is to regulate the burning and minting of FRAX, keep the stability of FRAX, and absorb revenue and excess collateral that enter the Frax ecosystem. FXS has a maximum token cap of 100 million FXS with a burning mechanism. Currently, there are 74.4 million FXS circulating in the market. FXS has a halving mechanism that cuts FXS emissions every year. The design of FXS stands to benefit long-term FXS holders who participate in the Frax governance system. FXS owners get all the profits and revenues of Frax Finance through veFXS.^[14]

Tokenomics

Essentially, token burning is a catch-all term that refers to the destruction or removal of a token’s circulating supply. There are different ways of achieving this, but the effects of token burning are basically that when there are fewer tokens available in circulation, the price for each token should go up if demand remains constant. Hypothetically, if demand were to increase and tokens were also burned, this would cause the asset’s price to increase as the tokens are withdrawn from existence.

Token burning usually takes place alongside token minting, so there are normally more tokens being created than there are being destroyed at any given moment. However, it is common for projects to create maximum token supply limitations, meaning that token burns have significant and lasting effects on projects: in the long term by decreasing the overall token limit, and by reducing the circulating supply in the short to medium term.

As for short-term demand, an exciting new project can draw lots of attention and, consequently, demand for the project’s tokens. On the other hand, demand can fall quickly, and no amount of token burning can save the price from demand destruction. The demand aspect of the equation can create all sorts of price swings in the short to medium term, and so predictions are difficult to make despite the ability to influence token supply via burning.^[15]

Advantages

Token burning has a deflationary effect, and can affect the price of a token by reducing the supply (and ideally increasing the value of the cryptocurrency). ^[12]

Curbing Inflation

Burning tokens' most significant advantage is that it helps curb inflation. When there are more tokens in circulation, the value of the cryptocurrency can decrease due to the oversupply. Burning tokens removes a certain number of tokens from circulation, which helps to maintain the value of the remaining tokens and prevents the asset from losing value.

Maintaining/Increasing Value

As mentioned earlier, burning tokens can also help maintain or increase the value of a cryptocurrency. By reducing the number of tokens in circulation, the demand for the remaining tokens can increase, increasing their value.
Some projects’ communities engage in large-scale token burns, which drive publicity, subsequently raising awareness of the cryptocurrency, increasing demand, and raising the token price. This can be particularly beneficial for investors who hold a significant amount of cryptocurrency.

Disadvantages

While burning tokens can potentially drive up the value of cryptocurrency, there are also disadvantages of burning tokens. ^[12]

Permanent Removal of Assets

One of the major drawbacks of burning tokens is that the coins are permanently removed from circulation. If the cryptocurrency has a fixed supply and starts to experience a significant increase in demand in the future, the reduced circulating supply may limit its ability to meet that demand, leading to missed opportunities for the asset.

Large Quantities Needed to Make an Impact

Another issue with burning tokens is that you need to remove a significant number of tokens from circulation to have a noticeable impact on the asset's market value. This can be difficult to achieve, especially for projects with a limited supply and those without a large supply of tokens, or an active community to drive publicity.

Proof of Burn (PoB)

Proof of Burn (PoB) is a consensus mechanism that requires the users to destroy or "burn" a certain amount of coins in order to participate in the network. The more coins a user burns, the higher their chances of being selected as a validator. Validators receive rewards in the form of transaction fees and newly minted coins. PoB aims to mimic the concept of proof of work (PoW), which is the original consensus mechanism of Bitcoin, but without the high energy consumption and hardware requirements. However, unlike PoW-based decentralized platforms like Bitcoin, Proof of Burn uses virtual mining rigs instead of physical ones to validate transactions. Simply put, PoB miners initiate coin burns as a way to show their involvement in the network and be allowed to mine.^[13]