At this point, everybody has heard of an NFT. Some have commended them to be the
future of art, while others have been more conservative with their praise, believing
NFTs to be a gimmick. Let’s take a look under the hood at how NFTs work and decide
how viable they are as the artwork of the future or as digital assets.
NFT, meaning “non-fungible token”, refers to an online asset that is not interchangeable; like trading cards or precious artefacts in how they are individually irreplaceable. NFTs seek to create the same kind of value in the digital space – digital items with their own unique identities. They have become a household term after exploding in popularity in 2017, with the craze being started by groups like CryptoPunks, a brand specialising in pixelated avatars. Their work has been traded for astonishing amounts – with Alien CryptoPunk #7523 infamously selling for 11.7 million USD.
First, let’s try to understand how NFTs work and what makes them unique. NFTs utilise ‘blockchain’ – the same technology as cryptocurrencies. Think of blockchain as a digital ledger that records transactions. The term ‘block’ refers to individual stores of data, and the term ‘chain’ describes the way these different blocks are linked to form one cohesive network. When each data block in the network reaches its predefined storage limit, it is rendered totally immutable, and data begins to flow into the next block instead.
This technology guarantees lasting security, because once a block is set, its contents are forever unchanged. In the case of NFTs, this technology is used to store an address on the web or another method of access. The blockchain itself does not store the image or video. A key that enables access to the site on the blockchain where the NFT address is stored is kept in the buyer’s digital wallet.
The appeal of NFTs is difficult to rationalise. It might be their novelty, the futuristic appeal of the blockchain itself, or their hype and celebrity. Their guarantee of uniqueness contributes to an image of absolute exclusivity. In addition, the security afforded by blockchain increases buyers’ impression that they have just acquired something irreplaceable, and they take pride in ownership of these digital artefacts.
Like trading cards, some characteristics in NFTs are more sought after than others. In the CryptoPunks collection, there are some common characteristics and some which are much rarer, like alien skin; those with that characteristic are likely to go for hundreds of thousands of dollars, if not millions. These art pieces also act as status symbols. There are events and exclusive clubs/communities that only permit those who have ownership over specific NFTs. This desire for celebrity status is a central driving force behind the NFT rage – people seek to take part in a lifestyle they have not yet gotten to experience. The example of basketballer Stephen Curry, who spent 180,000 USD on Bored Ape #7990 and made a tweet showing off his new purchase and his acceptance into an exclusive discord server, highlights the usage of NFTs as a status symbol. When high-profile people make these purchases, it beckons more people to enter the market and try their luck.
It seems clear to at least some degree that the explosive growth of cryptocurrency over the past few years, with Bitcoin and Ethereum becoming household names, has had a major effect on propelling NFTs to the global stage.
The NFT market has also been boosted considerably by an irrational fear of missing out on “the next big thing”. Nowadays we all hear about prophets who made bulk purchases of Bitcoin around a decade ago when it was cheap and are now multi-millionaires; people feel they would be missing out on a trend of a similar calibre if they were to ignore the NFT market. Therefore, people are anxious to jump in as fast as possible, leading to questionable financial decisions. To some extent, the hype around NFTs is a self-propelling cycle, attracting more and more prospective buyers as it grows larger and more tempting.
There is also something to be said about NFTs being an inevitable offshoot of the transition from the physical to the digital that has taken place over the past two decades. Think of the migration of the cinema experience to online streaming services, or the migration of media from discs to files on the cloud. It seems like a natural progression from tangible art to NFT. The idea of keeping things physically and valuing the ability to touch and to feel seems antiquated.
Of course, despite their inevitability with increasing focus on the digital space, NFTs have not been universally accepted. For instance, game developers are against NFTs specifically because the focus of NFTs has become their selling price rather than the quality of the digital content. Some view NFTs as a platform ripe for illegal acts like money laundering.
The Ethereum transactions powering most NFT markets are environmentally detrimental – with the amount of computing power necessary to make transactions being a limitation on how time-efficient and energy-efficient these transactions can be. According to an article linked on Ethereum.org, Ethereum’s total annual energy consumption was around 112 tera-watthours per year, and their carbon emissions totalled 53 megatons per year. As pointed out in the article, this is equal to the total annual carbon emissions of Singapore!
NFTs are marketed as being secure due to their decentralisation in the blockchain, but this decentralisation leads to its own complications. There is no real central authority or government agency in any country overlooking NFTs. The regulatory guidance on the subject is in a fledgling state and proof of ownership is not as secure as it could be. It has even been expressed that there is a risk of hackers making purchases or transferring assets using others’ accounts. This is because, as mentioned before, the code/key to access the NFT in the blockchain is stored on a digital wallet and not on the blockchain itself. Therefore, while the web address of the NFT is secure, the code to accessing the NFT is theoretically vulnerable to cyberattacks.
The decentralisation of cryptocurrency, and NFTs by extension, is a factor contributing to their massive monetary value: the supply is tightly restricted by the costs and high barriers to entry of mining operations, and the demand continues to rise, with neither supply nor demand subject to intervention from authorities. This leads to great price volatility (fluctuations in prices) creating a speculative market. It is reliant upon ‘greater fool’ theory; people only fork out their money hoping that a bigger risk-taker will be willing to pay an even larger sum. As opposed to other options like the stock market, NFTs come with far greater risks and are subject to greater price volatility, reflecting the cryptocurrency they parallel.
Payment can theoretically also be made in fiat currency, as was the case in the 11.7-million-dollar purchase of CryptoPunk #7523. However, the issue of unregulated markets and price volatility is not addressed, because while the buyer may be protected from the risk of cryptocurrency investment, any investment into an NFT comes with the same risks arising from the tight supply and growing demand.
Overall, I think that in their current iteration, NFTs cannot fully replace traditional art. However, each has its advantages and disadvantages; and NFTs bring very new and innovative ideas to the table; shaking up the scene significantly. And, of course, we must address that while art pieces like physical paintings can technically only be expressed along two dimensions, NFTs can dip into four, as they can be 3 dimensional objects which change over time. For example, the supposed ‘first-ever’ NFT, Quantum, which sold at the same auction as CryptoPunk #7523, is a geometric shape that morphs and bends with time. However, their environmental effects and the security concerns limit their sustainability for now.
At the moment, it seems unlikely that NFTs are going to be phased out anytime soon; but outliers with ludicrously high valuations will become increasingly scarce; these are just symptoms of the excitement of the market and are not reflective of the way NFTs should progress. NFTs are fundamentally different from traditional art in many positive ways; for one, NFT trading is much more accessible in the modern day given that all one really needs is a computer and internet connection. NFT markets and creators should move forward with an intent to promote openness and continue to innovate.
Greater fool theory: It is when people disregard the actual valuation of an asset and make a purchase with the intent of selling it off to a higher bidder. This relies on a speculative market. When the so-called “speculative bubble” dies down, the asset is left in the hands of the unfortunate highest bidder with nobody to sell it to. For further reading: https://www.fool.com/investing/how-to-invest/greater-fool-theory/
Fiat Currency: Acts legal tender by the decree of a government or authority without any kind of intrinsic value on its own. As such, it is backed by authorities and is subject to regulation.
Written by Mitaansh Niverthi
Illustrations by Sung Jernin