Polkadot | DOT Token, Pricing, How It Works

The Polkadot network has become one of the most popular blockchain projects in the world. Despite being newer than many other blockchains, Polkadot has a few major advantages over other platforms in the decentralised finance (DeFi) ecosystem.

In our beginner's guide, you'll find out what you need to know about Polkadot, its DOT token, and how it stacks compared to similar blockchain platforms.

What Is Polkadot?

Polkadot is a decentralised network that lets separate blockchains interact with each other. Founded in 2016 by Ethereum co-founder Gavin Wood, the idea is that Polkadot could do to the blockchain what the internet did to individual computers worldwide.[1]

While there are countless blockchains operating right now, most aren't able to interact with one another in a meaningful way. Instead, each blockchain operates as an isolated ecosystem without any cross-chain functionality.

For instance, it's impossible to transfer information from one blockchain, like Ethereum, onto another, like Solana. While you can buy and sell their respective cryptocurrencies or trade them on a decentralised exchange, the actual data inside a blockchain remains firmly within that network.

The ability (or lack thereof) to move assets or information between different blockchains is called interoperability. Increasing interoperability is one of the main problems preventing blockchain technology from truly becoming mainstream.[1]

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How Does Polkadot Work?

Polkadot allows multiple blockchains to come together and work in parallel using a new type of blockchain technology called a parachain.

Parachains

A parachain, short for a parallel chain, are independent blockchains that can work in parallel around the "main" Polkadot blockchain, known as the relay chain.[1]

Each parachain is fully customisable and flexible to the needs of its community, thanks to Polkadot's substrate framework. What's more, each parachain can have its own consensus mechanism, its own cryptocurrency token, and its own unique rules for governance. Just like Ethereum and other smart contract platforms, developers can create their own decentralised applications (Dapps) on Polkadot as well.[3]

Parathreads

Developers who aren't interested in deploying an entire parachain can also use a parathread instead. A parathread is similar to a parachain, but is more limited in functionality. The benefit is that parathreads function on a pay-as-you-go model, rather than requiring purchasing a dedicated parachain.[2]

Bridge Technology

Polkadot also developed a new technology called a bridge, which is what allows separate blockchain networks to communicate with one another. Bridges are available both for decentralised systems as well as centralised blockchain platforms, such as the Binance exchange or Coinbase.[4]

While parachains are fully functional on the Polkadot mainnet, bridges are still being developed and worked on at the moment.

What Is DOT, Polkadot's Token?

The Polkadot token, also known as DOT, is a native token used by the Polkadot platform. Like most native currencies, DOT is used as a way to pay for transaction fees on the network, similar to how Ether (ETH) is used to pay for Ethereum gas fees.[2]

Voting

DOT can also be used to vote on platform-wide issues and governance topics. Polkadot's governance structure allows users to "lock" in larger amounts of DOT tokens in order to increase their voting power on an issue. In this way, DOT holders who have the most staked into the system have a larger voice.[5]

Bidding

DOT tokens can also be used by blockchain projects to bid for new parachain slots on the network. If a project wants to launch their own parachain on the Polkadot platform, they'll bid DOT tokens on an auction for the slot. If a project doesn't want to buy enough DOT on the market, Polkadot also offers a crowdfunding system where projects can "borrow" DOT tokens from network users to bid in parachain slot auctions.[6]

DOT Pricing

DOT is trading for around US$20.8 per coin as of 24 March 2022, and the entire blockchain's market cap is around US$20.6 billion. That makes it the 11th largest cryptocurrency project by total valuation, right behind Avalanche (AVAX), Cardano (ADA) and Ripple (XRP).[7]

What Are The Advantages Of Polkadot?

As a newer blockchain platform, Polkadot has a number of advantages and advanced features that put it above other popular blockchains. Polkadot is most often compared with Ethereum because both are smart contract platforms that enable other blockchain projects to function.

While it's not as popular yet, Polkadot has a number of advantages over Ethereum and other older blockchains.

Cross-Chain Interoperability

The biggest advantage of the Polkadot network is its ability to interact with other blockchains. Older blockchains networks, like Ethereum, only allow for sharing data and information if two cryptocurrencies are both built off Ethereum.[1]

That's why it's easy to trade between two Ethereum-based altcoins on a decentralised exchange. Trading two cryptocurrencies built on completely different blockchains, such as an Ethereum token and Binance Coin token, is a much harder process.

By using Polkadot, any blockchain network could gain cross-chain interactivity with the multitude of other parachains on the network and any other blockchains via bridges.

This becomes even more important as blockchain becomes a typical, day-to-day technology. Instead of each company operating on its own private blockchain, Polkadot allows all of these blockchains to interact and transfer data to each other as needed.

Proof-of-Stake Consensus

Polkadot uses the newer Nominated Proof-of-Stake (NPoS) consensus algorithm to verify transactions. Every decentralised network needs a way to confirm a transaction is legitimate. Without a centralised institution, blockchain networks use consensus mechanisms to verify transactions on its ledger without a third party.[7]

Older blockchains like Bitcoin (BTC) use the Proof-of-Work (PoW) algorithm, a much more energy demanding way of verifying transactions. In contrast, PoS is much less energy-intensive and significantly more scalable.[8]

Instead of relying on cryptocurrency miners, as PoW does, PoS uses validators who "stake" their crypto as a form of collateral. In exchange, they earn the right to verify transactions on the network, earning transaction fees or staking rewards in the process.

The end result is a more energy-efficient blockchain that improves scalability as well. Polkadot can handle more than 1,000 transactions per second, whereas Ethereum can handle only 15.[9]

The difference between regular PoS and NPoS is that individuals who stake their cryptocurrency can nominate potential validators rather than simply becoming ones themselves. Vouching for a bad validator would lead to a validator losing said amount of DOT.[7]

Polkadot Is Forkless

Hard forks are a frequent phenomenon in the blockchain community. Whenever a new change is proposed to a blockchain project, the entire community votes on whether to accept or reject the proposal.[10]

Those who refuse to accept the new change always have the option of simply continuing on with the old blockchain code. This creates a divergence between the two projects, also known as a hard fork.

Popular forks include Litecoin, a fork from Bitcoin, as well as Ethereum Classic, a fork of Ethereum. However, the problem with forks is they end up dividing a community into smaller, separate communities.

Polkadot's governance works in a different way. Every referendum or change is voted on by the network's participants. If a majority rules in favour of the change, it's automatically applied across the entire blockchain. That means there's never going to be a divisive hard fork scenario in Polkadot's future.[11]

What Are The Disadvantages Of Polkadot?

Despite its advantages, there are still a couple of things holding Polkadot back from replacing Ethereum.

Fierce Competition

The biggest reason is simply all the competition out there. Polkadot is competing in an already crowded market, where tons of other smart contract platforms are also trying to become the next Ethereum. Cardano, Cosmos and Tezos are all examples of other potential "Ethereum killers."

That's not to mention competition from Ethereum itself, as many crypto users would prefer to stick to Ethereum, provided it implements upgrades to its functionality. The Ethereum 2.0 mainnet update is expected to drastically increase processing speeds, minimising one advantage held by Polkadot.[12]

Past Hacks

Hackers have exploited the Polkadot ecosystem multiple times in the past, draining millions of dollars in the process. In the early days, the wallets of Polkadot's founders were compromised in what was one of the biggest hacks in blockchain history. During Polkadot's initial coin offering (ICO) in 2017, around 60% of the project's funds were lost.[13]

Although there have been no hacks since Polkadot upgraded its security, questions remain surrounding Polkadot's reliability.

Summary

Polkadot is an ambitious DeFi project, bringing much-needed customizability as well as interconnectivity to blockchain projects around the world. Just as how the internet brought computers all around the world together, Polkadot's ecosystem has the potential to unite the many separate blockchains of the world together.

FXCM Research Team

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Articles published by FXCM Research Team generally have numerous contributors and aim to provide general Educational and Informative content on Market News and Products.

References

1

Retrieved 11 Apr 2022 https://polkadot.network/blog/what-is-polkadot-a-brief-introduction/

2

Retrieved 11 Apr 2022 https://polkadot.network/about/

3

Retrieved 11 Apr 2022 https://substrate.io/

4

Retrieved 11 Apr 2022 https://wiki.polkadot.network/docs/learn-bridges

5

Retrieved 11 Apr 2022 https://wiki.polkadot.network/docs/learn-governance

6

Retrieved 11 Apr 2022 https://polkadot.network/auctions/

7

Retrieved 11 Apr 2022 https://coinmarketcap.com/

8

Retrieved 11 Apr 2022 https://wiki.polkadot.network/docs/learn-consensus

9

Retrieved 11 Apr 2022 https://www.kraken.com/learn/proof-of-work-vs-proof-of-stake

10

Retrieved 11 Apr 2022 https://www.kraken.com/learn/what-is-polkadot-dot

11

Retrieved 11 Apr 2022 https://www.coinbase.com/learn/crypto-basics/what-is-a-fork

12

Retrieved 11 Apr 2022 https://polkadot.network/

13

Retrieved 11 Apr 2022 https://www.computer.org/publications/tech-news/trends/end-bitcoins-blockchain-dominance/

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