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What is Coin Burning and how does it affect Cryptocurrencies?

07 Jul 2022 By : Somesh Gaur
Southeast Asia’s Lar


Coin burning refers to permanently removing some tokens from circulation by transferring them into a wallet from which they can never be reclaimed. It's common to say that this eliminates tokens as the tokens can no longer be used because the wallet is not connected to the network. The address where the tokens are sent is also called burner addresses. Because burner addresses lack a private key, the tokens are permanently lost.

Several coins burn tokens to increase the value of the coin. Coins such as Binance,  Ethereum, and Terra use the burning of tokens. Recently,  Terra (LUNA) had a terrible crash earlier this month due to the mass burning of LUNA because of its connection to the stablecoin TerraUSD (UST). Due to the fall of both tokens, the only option for TerraUSD (UST) to regain its pegged $1 value is by the mass burning of Terra (LUNA) tokens, which would raise the value of the linked stablecoin.

The demand of traders and investors drives a significant portion of the cryptocurrency market, and the supply-demand equation is susceptible to swings. Crypto Burning is mainly used to decrease the circulating supply, and as the demand increases, it leads to an increase in the value of coins. However, burning coins can occasionally aid in a coin's price recovery only in certain scenarios. 

The explanation for this is rather straightforward: burning coins reduces the quantity in circulation. Reduced supply creates more scarcity, which raises demand and increases value.

Burning cryptocurrencies is another way to reward or encourage investors. When a cryptocurrency's price rises, more people may decide to buy it, which will create demand and raise the price even higher.

Applications of Coin Burning

In an effort to raise the value of the currencies that are still in use, crypto developers burn the coins. It resembles a lot of what takes place in the world of oil. If the price of a barrel of crude oil falls because there is an excess supply and the demand is insufficient, the oil-producing countries cut back on production to raise prices. The same supply and demand mechanism is at work when coins are burned.


Proof-Of-Burn(POB)-

Blockchains may employ the consensus mechanism known as "proof of burn" to verify and add transactions. It is used to stop fraud and make sure that only legitimate transactions are processed. It is an alternative consensus algorithm to the two most commonly used consensus algorithms, proof of work and proof of stake.

In general, the Proof of Burn is a method that resembles the proof of work algorithm but uses less energy. PoB-based networks do not depend on or need the utilization of significant computational resources or mining equipment for the block validation process.

Cryptocurrency miners using proof of burn must burn their tokens to obtain the ability to mine brand-new blocks of transactions. They may mine more as they burn more tokens. Participants receive compensation in the cryptocurrency they are mining in exchange.

Candidate miners are not needed to invest in physical assets because cryptocurrency is purposely burned as a method to "invest" resources in the blockchain.

Intentional Burns to Increase Value

Companies buy their stocks to reduce the supply of shares in circulation. Typically, this strategy aims to raise the share price while also boosting the business's financial performance. Unfortunately, it occasionally has the opposite effect and doesn't always work as intended. This strategy entails purchasing shares to acquire a majority and subsequently control the company.

It is believed that tokens are burnt to accomplish similar goals. The organizations burning the coins are trying to restrict the coin supply and keep or raise the value of their holdings by making the tokens more precious and difficult to get. To carry out these responsibilities, some developers intentionally burn coins.

Burning to Support Mining Balance

The PoB system contains a mechanism that facilitates the periodic burning of cryptocurrency tokens to maintain a balance between early investors and new users to prevent the possibility of unfair benefits for early ones.

Project's Duration

The increased coin value is typically one of a project's primary goals since it provides a compelling use case. In short, coin burning shows a big commitment from the project to this goal and gives investors trust.

Supply-and-demand theory

According to basic economics, the value will rise as long as there is a decline in the quantity in circulation and no change in the level of demand. As seen in the illustration below, burning coins increases the value of tokens. Coin burning contributes to the network's deflation in a manner comparable to this.

Does Burning Coins Affect Their Value? 

A significant number of cryptocurrencies should be burnt to have an impact on the market, not simply a small number of coins. Additionally, developers should be cautious about carrying out a significant burn if a currency is getting close to the end of its finite supply. Since fewer coins are accessible due to burning them, each unit is worth more than it was before. Although you might not immediately notice any changes, remember that if these things happen, your investment could be worth more than you think!  There is no guarantee that when the burn occurs, the token's price will rise immediately.

The act of burning coins does not indicate the value of a cryptocurrency as an investment. There are cryptocurrency token burners that are both good and terrible. Understanding how coin-burning functions can help you better understand cryptocurrencies that employ it.

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