Beginner’s Guide to Ethereum ERC-20 Tokens

Beginner’s Guide / 16.12.2018
If you’re reading this page, you’ve probably heard the term ERC20 Token thrown around in the crypto world. ERC-20 is a technical standard used for smart contracts on the Ethereum blockchain for implementing tokens. ERC stands for Ethereum Request for Comment, and 20 is the number that was assigned to this request. The clear majority of tokens issued on the Ethereum blockchain are ERC-20 compliant.
While there are a lot of ERC20 tokens, we need to ensure we pick the right ones

What is Ethereum, in the first place?

Ethereum is a decentralized network of computers with two basic functions: a blockchain that can record transactions, and a virtual machine that can produce smart contracts.
Because of these two functions, Ethereum is able to support decentralized applications (DApps). These DApps are built on the existing Ethereum blockchain, piggybacking off of its underlying technology. In return, Ethereum charges developers for the computing power in their network, which can only be paid in Ether, the only inter-platform currency.
Depending on its purpose, DApps might create ERC-20 tokens to function as a currency, a share in the company, for points in a loyalty program, or even proof of ownership, say, of an amount of gold or the deed to a house.

Where do smart contracts fit into all this?

Smart contracts are used to create the ERC-20 tokens. They are also used to facilitate transactions of tokens, and record balances of tokens in an account. Smart contracts are written in the programming language “Solidity” on the basis of If-This-Then-That (IFTTT) logic. Think of this as a vending machine.
ERC20 tokens creation explained based on a vending machine principals

After a token has been created, it can be traded, spent, or given to someone else. ERC-20 is the universal language that all tokens on the Ethereum network use. It allows one token to be traded with another.

ERC 20 tokens don’t have their dedicated blockchain and thrive on Ethereum’s blockchain instead. This is the reason why, when you send ERC20 tokens, you are required to have some Ethereum as GAS.
To make it is simpler to understand consider this example of an ERC20 token i.e. OmiseGo Token.
If you look closely you will find that Ether transfer is ‘0’ and it will look like zero value was transacted. But on closer examination, you will find 162. 4 OMG tokens where transacted between two Ethereum addresses.
ERC20 transactions are not hard to understand
In “To” field, you can also see the smart contract address of OMG starting with ‘0xd26…’. If you go ahead and check the smart contract’s source code, you will find all the functions that an ERC-20 token should have. Here is the link. And this smart contract is like an accountant that keeps track of total supply, distribution etc of an issued ERC20 token on Ethereum’s network.
Also, you can see in the image above that the transaction fee was paid in Ether, which is calculated from GAS price and Gas limit. That is why, to transact ERC20 tokens, you should have Ether prior on to the address from which you plan to initiate a transaction out.

Benefits of ERC20 Standard

Prior to the ERC20 token standard, different start-ups or DApps used to set their own standards and implementations for launching a token on Ethereum’s network. However, with the launch of the ERC20 standard, things have changed and have become much more streamlined. Also, a standard like ERC20 have a lot of benefits:
  • Uniformity of tech and protocol standard.
  • Reduced complexity of understanding each type of token implementation.
  • Enhanced liquidity of ERC20 tokens.
  • Reduced risk of breaking contracts.
Imagine a scenario wherein 100s and 1000s of tokens are launched on Ethereum’s network, each with their own set of standard and rules. This will create a liquidity problem for such tokens and a lot of headache for exchanges that try to implement them. In this scenario, each time a token comes for listing to an exchange, it would require a lot of work from bottom to top to be actually listed.

Whereas, if you have a standard and uniformity that ERC20 brings to the table, it becomes very easy for users as well as exchanges to list such tokens quickly given that the tokens follow a standard i.e. ERC20.

This is only one practical scenario but there can be many such as tokens being exchanged via smart contracts on decentralized exchanges without any third party because their underlying tech and standards of implementation are same.
Also, already as of now, there are tens of thousands of ERC20 tokens contracts running on Ethereum’s blockchain. Not having a standard will bring a lot of such unseen issues. See below some of the most popular tokens:
while there are thousand of ERC20 tokens, many of them are in top 20

Conclusion

Everyone can easily create ERC20 Tokens on Ethererum Blockchain. This naturally calls you to be extra mindful that both technology enthusiasts and scammers are using this tech and will continue to use it to launch many such tokens to raise huge funds in ICOs.
Also, these are tokens and not actually currencies that we will be used in day-to-day life like Bitcoin or Litecoin. They are utility tokens for their specific DApps, so it is difficult to judge in these early days as to what their value should be despite the fact that they are useful as utility tokens.
Make sure you are extra cautious while participating in ICOs and HODLing such crypto-tokens because some of them have already pulled out an exit scam.
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Born in Bucharest, Marius is the founder of Crypto Adventure. Since his first contact with Bitcoin and cryptocurrencies, he never stopped believing that they are one of the most important innovations of our time, which will forever change the way business is done.