The concept of gold-backed currencies isn’t new, although in the present day, money is usually issued by a centralized government-owned financial entity under a fiat currency to manage its supply and demand. In the case of cryptocurrencies, being pegged to the current value of physical gold helps to manage the volatility of the digital asset, producing a type of crypto stablecoin. As such, gold-backed crypto’s value moves with the price of gold.
How Does Gold-Backed Crypto Work?
A gold-backed cryptocurrency tokenizes the ownership of a predetermined amount of physical gold and stores the transaction on a blockchain. Its value is thus tied to the price of physical gold, based on the number of grams of gold a unit is backed by, which is usually defined arbitrarily. Therefore, gold-backed crypto is a type of stablecoin that represents the collection of physical gold that’s in the custody of the stablecoin issuer.
Gold-backed crypto functions in the same way as a gold ETF (exchange-traded fund) with a centralized issuer, which makes it a centralized off-chain cryptocurrency bound to a third-party custodian. Some gold-backed cryptocurrencies simply have their value pegged to gold, while others also allow redemption of the coins back to gold, based on the amount of gold each unit is worth. Once the gold-backed crypto is redeemed for gold, the coin is burned and removed from circulation.
Examples of Gold-Backed Crypto
Currently, there are over 150 gold-backed cryptocurrencies in the market. Gold-backed cryptocurrencies are usually issued on Ethereum through its ERC-20 token standard. There are also some on other blockchains, such as Algorand. The most prominent of all are PAX Gold (PAXG) and Tether Gold (XAUT), which combined to surpass $1 billion in market capitalization during 2022 Q1. Other popular gold-backed cryptocurrencies include Perth Mint Gold Token (PMGT), Goldcoin (GLC) and CACHE Gold Token (CGT).
Benefits of Gold-Backed Crypto
Although similar to a gold ETF, gold-backed crypto provides the opportunity for people without access to traditional ETFs to invest in gold easily on public blockchains, without the need for permission or authorization. The trading of gold-backed cryptos can be conducted on decentralized exchanges (DEXs) such as Uniswap. Anyone with a digital wallet on such exchanges can invest in gold-backed crypto.
Existing as a form of digitally tokenized gold, gold-backed crypto is also more conveniently traded globally as compared to physical gold, due to the latter’s transaction costs as a result of its volume. Therefore, gold-backed crypto can help to increase and popularize the use of gold as a mode of payment. Conservative investors may also appreciate the stability of gold-backed crypto since it’s pegged to the value of a tangible precious metal, making its price fluctuations less volatile — and easier to understand than cryptocurrencies without any backing, such as Bitcoin.
Still, a relatively new and constantly evolving technology for many, cryptocurrencies need to earn the public’s trust for a wider reception in order to expand their market share over traditional fiat currency. To do so, the volatility of cryptocurrencies has to be managed. This is precisely why gold-backed crypto is helpful in ensuring a form of stability for cryptocurrencies. The tangible physical commodity of the world’s best-known precious metal can help build people’s trust in crypto as a reliable currency.