What are NFTs and how do they work?
If you use the Internet regularly, you’ve probably heard of NFTs. But what are they and why is there so much buzz around them?
Let’s start with the basics. “NFT” is an acronym that stands for Non-Fungible Token. In a digital world where every file is repeatable, non-fungible tokens are a special type of digital file that represents a single unit of value.
NFTs function as verifiable assets with unique identifiers and attributes that give them value. They are an individualized digital commodity that cannot be exchanged for another asset, only for themselves. This is what it means to be “non-fungible” – and why non-fungibility matters in crypto.
Bitcoin, for example, is a fungible asset because one bitcoin is interchangeable with another bitcoin. If you own bitcoin, no one will see any reason to give your coin more or less value than any other bitcoin. But if there was only one bitcoin in the world, then its individual existence would be more valuable. Likewise, an an original work of art, such as a painting, is not expendable. If you exchange a painting for another painting, even by the same artist, you will have a completely different painting.
This is what happens with NFTs. The blockchain is essentially a decentralized record of all transactions that occur in a network. Using blockchain technology, digital transactions can be confirmed without the need for a central clearing authority, such as a bank. Instead, it uses encryption to verify transactions. Most people are familiar with the use of blockchain to verify transactions involving cryptocurrency.
However, cryptocurrency is not the only asset whose ownership can be verified using blockchain. This is where NFTs come in. An NFT is a digital asset. It can be anything, a drawing, a doodle, a piece of music, a text – as long as it’s digital. In fact, most of the excitement around NFTs is about collecting NFT artwork.
And creating and investing in NFTs, despite environmental concerns about the amount of energy used by cryptocurrency and NFTs, and concerns about the huge amount of scams, fraud, and theft of intellectual property rights involved, becomes a very big business.
NFTs can be any digital file to which you have intellectual property rights. For example, a meme, image, drawing, piece of music, etc., created by you is a unique digital asset that you, as the owner of this asset, can convert into NFT. However, one problem with NFTs is that anyone can create a digital file as an NFT, whether or not they have rights to it in the first place. Because the process is anonymous, it can be very difficult to track “thefts”.
To create an NFT, you must first select a blockchain platform to “encode” your digital asset. In cryptocurrency, blockchain technology is used to store and record transaction-related information in encrypted blocks that form a secure, unalterable chain in peer-to-peer networks. In this way, trusted third parties are not required to confirm transactions.
NFTs are also recorded on the blockchain as unique data units that identify them. NFT owners can choose which blockchain to store their digital assets on. Currently, Ethereum is one of the most popular options among NFT creators.
But making an NFT is not free. Just as you would have to pay for a copyright license if you wanted to save your work traditionally, you have to cover some fees to save your NFT’s information on the blockchain (a process called minting) or to list it for sale on a NFT market. The exact costs really depend on the NFT platform you will be using. When you pay to mint an NFT, cryptocurrency is used, so getting a crypto wallet is an extra and necessary step for NFT creators.
Once the NFT is listed for sale, buyers and investors of the NFT can purchase it as an original digital asset. However, that doesn’t mean they’ll be the only ones who own it – just those who own the original file instead of a copy. Therefore, there will be no copyright privileges on the NFT. Owning an NFT gives the buyer ownership of the NFT, not the original work on which it was based. Also, anyone can view an NFT for free.
In a sense, you are buying the right to say that you own an NFT. For example, an NFT of Jack Dorsey, the founder of Twitter, first tweet (“just setting up my twttr”) was sold for 2.5 million euros. The buyer purchased a digital certificate of the tweet, digitally signed and verified by the creator. However, the tweet itself can be viewed by anyone on Twitter for free.
I just set up my twttr
— jack⚡️ (@jack) March 21, 2006
For artists, NFTs have opened up a new way to earn money. NFT art has been called the art of the future. It works much like traditional art, except that NFT artwork is always digital, and the NFT system replaces conventional certificates of authenticity.
Artists, gallery owners and art collectors need one of these certificates to buy and sell works of art in “real” life. But in the world of crypto, all you have to do to prove ownership and authenticity of your work is an NFT ledger in the blockchain. For smaller artists, in particular, NFTs can represent a new opportunity to monetize their work without relying on galleries or auction houses (which also charge fees). Artists can also schedule royalties to be paid automatically each time an NFT is sold to a new owner.
One of the most famous NFT artworks is “Everydays: the First 5000 Days”, a collage of 5000 digital illustrations by American digital artist Mike Winkelmann (also known as Beeple). This work sold for $69.3 million at British auction house Christie’s in 2021.
However, he It is also much easier to make counterfeits in the blockchain space than in the traditional art world. No hardware or technical knowledge is required. NFT forgers use automated robots to “scrape” entire galleries of artists’ works. The coins are then offered for sale on NFT marketplaces. The anonymous nature of the blockchain makes it very difficult for artists to find this stolen work and obtain compensation.
In games, collectibles are items that are not essential to play the game. They are used to allow you to unlock certain rewards (like special artwork, 3D models, trophies, etc.) and/or help you achieve a 100% completion percentage (if you are a completer).
Collectibles in video games have been around for a long time. Think golden Skulltulas from The Legend of Zelda (1998) or oysters and snapshots from GTA San Andreas (2004). Collectibles are even present in modern AAA games like Red Dead Redemption 2 (2018), in which you can find collectible dinosaur bones, cigarette cards, dream catchers, etc., on the map.
Every player who owns a copy of Red Dead Redemption 2 can collect these items, but what if each one was unique? This is what happens in NFT-enabled games. Players can collect and trade NFT items which are valuable as their ownership can also be traced.
One of the most popular NFT games is the Ethereum-based game CryptoKitties, which involves collecting, breeding, and selling virtual cats. Each cat is an NFT item with a unique sequence of numbers, called its “DNA”. This makes them unique crypto collectibles.
There are also play-to-earn NFT games, in which the player can be rewarded with tokens and NFTs if he overcomes certain challenges or completes certain tasks.
But all is not rosy. Because they are based on cryptocurrencies, NFTs are highly volatile and speculative, and there is no guarantee that you won’t lose money if you enter the world of NFT investing.
Additionally, as noted above, there is an activity climate debate regarding the amount of electricity consumed by crypto mining, the process required to operate the blockchain that backs up cryptocurrencies and NFTs.
Some prominent artists have received a lot of backlash for the shows generated by NFT minting. Beeple, mentioned above, announced that all of its future NFTs will be offset to make them “neutral” or “carbon negative”.
While there are no formal metrics of emissions generated specifically from NFTs (as opposed to crypto mining as a whole), some statistics calculate that a single Ethereum transaction can consume as much electricity as a US household in nearly 9 days, which every year can have an environmental impact comparable to Singapore’s carbon footprint.
Ethereum is considering replacing its current algorithm with a more energy-efficient alternative called proof-of-stake, but there is no official date when the transition will begin..