We tend to use the terms token and cryptocurrency interchangeably. They are both on the blockchain and both digital assets. The crucial difference is that tokens are built using smart contracts on an existing blockchain, usually Ethereum. On the other hand, cryptocurrencies are the native asset of a blockchain. Examples are Bitcoin and Ethereum.
Tokens and cryptocurrencies are largely the same from the end user’s perspective. There are some important technical differences between them though.
On the blockchain, end users sign information digitally using public key cryptography. This signed information is a transaction, which is sent to a peer-to-peer computer network operating the blockchain node software. To decide whether a transaction is valid, all the nodes have to reach a consensus. It is added to a block if it is found to be valid. A block is a transaction set.
Only one block can be added at a time although many computers on the network build these blocks of transactions. Ultimately, the blocks form a chain, i.e. blockchain.
People use public key cryptography in blockchain networks. It is mostly used to sign information digitally and have the signatures verified later. This is how transactions are created and verified. As a user, you have a private key as well as a public key. The public key is common knowledge, but the private key is kept secret.
Types of transactions
There are two types of transaction: simple transfers and ones based on smart contract. In most blockchains, the information users are signing involves transferring units from one account to another. The blockchain’s software protocols encode these units. These units become known as cryptocurrency. There is only one type of transaction in this system.
Blockchains like Ethereum, which support smart contracts, involve signing info about unit transfers between accounts. With smart contracts, it gets a bit more complicated in that they execute code and data stored on the blockchain independently. You can consider them a special type of account. An account can sign information that with instructions for a smart contract to store some data or execute some code. It doesn’t have to transfer any units of cryptocurrency.
Similarities and differences
Tokens are like cryptocurrencies in that they exist on a blockchain and you can transfer them between accounts. The difference is that tokens’ behavior is not built into the blockchain software itself. It is a result of implementation in smart contracts, which add up the units of the token transferred between accounts.
Tokens are transferred in units as follows: a transaction is signed by an account telling the smart contract to deduct a certain amount of units of the token from the total and add it to the total in the other account. The majority of tokens complies with the ECR-20 token standard. Most smart contracts on blockchain networks are this type. This makes interaction with them very easy for users, wallets, and exchanges.
The native crypto of Ethereum is ether. All the other units on the blockchain are tokens. It is the same with RSK. The crypto is RBTC and other “currencies” are tokens. This is important to keep in mind for the following reasons.
Gas and other fees are always paid in the cryptocurrency. You need some cryptocurrency in the same account when transferring tokens. Fees are lower when transferring the cryptocurrency and higher when transferring tokens.