The driving force behind the ICO boom: Ethereum token standard ERC-20

You may be shocked by the amount of money that investors have been pouring into ICOs lately.

This new fundraising model allows developers to raise funds for decentralized projects by selling digital “tokens,” and two recent ICO events highlight why this model has attracted attention.

Earlier this month, web browser startup Brave raised $35 million in its BAT token ICO in seconds, and soon after, a relatively unknown project, Bancor, raised $150 million worth of Ethereum in a matter of hours, setting a new ICO record.

Most of the recent ICO projects are built on the Ethereum blockchain. What they have in common is that they use ERC-20 standard, which allows wallets, exchanges and other smart contracts to connect to various tokens in a common way.

While the standard offers some benefits, coupled with the lack of regulation in the industry, some believe that the existence of ERC-20 has led to a lot of unscrupulous projects entering the game.

Lessons from History

In fact, the so-called ICO is not something very new.

Historically, Mastercoin (now the Omni project) raised $600,000 worth of Bitcoin in July 2013. The project built a protocol layer on top of the Bitcoin blockchain.

The next large-scale ICO project took place in April 2014, when Ethereum raised $18 million worth of Bitcoin by selling 50 million Ether. After nearly 7 months of development, the Ethereum project mainnet was officially launched in January 2015.

After the Ethereum project was launched, developers thought of providing a way to raise funds for teams building decentralized application projects based on Ethereum. Investors can use Ethereum to buy tokens of these projects, and then trade them on exchanges.

One of the most notorious ICO projects is The DAO (Decentralized Autonomous Organization). The project raised $150 million worth of Ether soon after its launch in April 2016. However, two months later, due to a vulnerability in the smart contract code of The DAO, $50 million worth of Ether in the project contract was transferred to another contract address by hackers. After that, the Ethereum network was forced to hard fork, and investors were finally able to get their funds back.

Despite its troubles, Ethereum recovered, and ICO activity has become more frequent since then, with blockchain entrepreneurs raising more than $327 million through ICOs so far in 2017 (excluding Bancor’s $150 million), far more than traditional VCs have invested in the same period.

However, the question is, are these ERC-20 standard tokens really custom tokens?

Copy and paste solution

The ERC-20 standard was launched in November 2015, and tokens using this rule behave in a universal and predictable way.

In simple terms, this means that any ERC-20 token is instantly compatible with Ethereum wallets, and since exchanges already know how these tokens operate, they can easily integrate them. This means that in many cases, these tokens are instantly tradable.

However, while the ERC-20 rules dictate how a token should operate, they do not contain the code, though token creators can still find the code they need in a public GitHub repository.

By copying and pasting the code, someone with a little programming experience can create an ERC-20 standard code in minutes.

Shlomi Zeltsinger, a blockchain consultant and Ethereum code contributor, demonstrated this step in a YouTube tutorial video.

Zeltsinger believes that most people don’t realize how easy it is to generate these tokens. Many ICO projects simply reuse this common code, he said, and they only need to input variables such as the token name, token symbol, total token supply, etc.

The rest of the work is also simple. When investors want to buy tokens during the ICO process, they will transfer their ether from their wallets to the contract address of the project token. Then, investors can trade on third-party exchanges that support these tokens.

What about applications?

Zeltsinger claimed that the current problem is that while some ICO projects built on the Ethereum blockchain have professional development teams behind them, the vast majority of projects have very bad ones behind them.

He said many project owners simply perform a "song" or "dance" for investors, telling them the project is almost operational, but this is often far from the truth, he said.

What investors don’t realize is that in most cases, what they are buying is just some data managed by the token’s smart contract. In fact, by studying ICO information on TokenMarket, Zeltsinger found that the underlying code of many projects is bad.

He said:

“Every project that’s simply using the ERC-20 base code to raise money should be saying out loud, ‘Listen, we’re raising money. These tokens are not going to be used in real applications, maybe in the future we’ll find a way to make them cool, but right now they’re not suitable for applications.’”

However, the situation may not change anytime soon unless the industry sees more regulation and oversight.

At least, that’s what Emin Gün Sirer, an associate professor at Cornell and a researcher on cryptocurrencies and smart contracts, thinks.

Although Professor Sirer agrees that some projects are clear scams, he does see some honest entrepreneurs trying to tokenize or integrate some new functions. In his opinion, we should not blame the Ethereum network and ERC-20 rules because they are just tools, just like the Internet.

But if things continue in this direction, the market could face a massive punishment. Or, as Ethereum founder Vitalik Buterin put it:

“Unfortunately, there is no other way to defuse the bubble other than to let it continue to run.”