Basics of Cardano & What ADA Tokens Are Used For

Key takeaways:

  • Cardano is an open-source, layer-1 blockchain that was launched by Ethereum co-founder, Charles Hoskinson.
  • Developed for the implementation of smart contracts, Cardano aims to enhance interoperability, scalability, and operational sustainability.
  • The highly liquid crypto asset is deflationary and has a maximum supply of 45 million.
  • ADA is the native token for the blockchain and plays an essential role in the network's governance, where it can be staked to support validation.

Cardano has grown to become one of the largest protocols within the cryptocurrency industry. Launched in 2017, the blockchain was designed to improve upon the failings of Ethereum – in particular scalability, interoperability, and sustainability. To overcome these issues, Cardano was developed using a scientific philosophy and peer-reviewed academic approach.

Often referred to as a third-generation blockchain, Cardano was developed to offer solutions to businesses, governments, and enterprises globally. As such, the network can host decentralized finance (DeFi), non-fungible tokens (NFT), and Web3 applications. With the long-awaited Alonzo upgrade bringing smart contract functionality, many investors have been left wondering if the native cryptocurrency, ADA, is a good investment for the future. This guide will explain exactly what Cardano is, and how it works, evaluate the protocol’s pros and cons, and offer advice on the project’s future potential.

Cardano Explained For Beginners

Cardano is an open-source layer-1 blockchain that was developed for the deployment of smart contracts. Founded in 2015 by the co-founder of Ethereum, Charles Hoskinson, the blockchain is unique thanks to an academic peer-review approach. The protocol is supported by the Cardano Foundation, a Swiss-based non-profit, Input-Output Hong Kong (IOHK), a for-profit research and development company co-created by Hoskinson, and EMURGO, a commercially focused blockchain solutions developer.

The ambition of Cardano developers was to design a blockchain that could solve issues faced by first and second-generation blockchains, such as Bitcoin and Ethereum. Specifically, the blockchain seeks to improve scalability and interoperability and ensure the sustainability of operations. With these ambitions in mind, Cardano developers created several proprietary technologies that allow the blockchain to do just that.

Purpose of Cardano
The purpose of Cardano according to the website.

The Use-Cases of Cardano

The Cardano blockchain can host a range of decentralized applications (dApps). With the network’s quick transaction speeds and ability to scale, these dApps can facilitate a wide variety of use cases. Although DeFi, NFTs, and metaverse are the key focus of dApp developers, the blockchain is capable of expanding beyond that as new sectors of the cryptocurrency industry evolve. At the time of writing, there are over 750 dApps on the Cardano ecosystem.

Popular dApps available on the Cardano ecosystem
Popular dApps available on the Cardano ecosystem.

Pros & Cons of Cardano

The excitement surrounding Cardano’s potential is clear. However, the blockchain has also come under heavy criticism by experts within the cryptocurrency community due to its lofty ambitions and slow development of smart contracts. Before investing in Cardano, it is sensible to evaluate its pros and cons.

Cardano Pros:

  • Future proof. Cardano’s developers have focused heavily on future-proofing the blockchain. Cardano’s innovative scalability and interoperability solutions should help the blockchain grow as network usage increases.
  • Low fees. Thanks to the blockchain's high throughput, the transaction fees required to complete transactions on Cardano are much lower than competitors'. In 2022, gas fees averaged 0.2 ADA, which in April 2022 is approximately $0.16.
  • Open-source. The blockchain’s underlying code is open-source and can, therefore, be verified. All transactions can also be viewed and are immutable.
  • Deflationary token. The native coin, ADA, has a fixed maximum supply of 45 million coins. Unlike other blockchains that continually introduce new tokens, the total number of ADA coins will never increase.
  • Liquidity. Due to Cardano’s popularity, the market for ADA is highly liquid. The coin can be exchanged and traded efficiently with little slippage.

Cardano Cons:

  • Smart contract deployment. Although the blockchain launched in 2017, smart contract functionality was not introduced until 2021. While Cardano developers argue that this was to ensure the blockchain was both decentralized and scalable, the blockchain is now behind competitors such as Solana and Avalanche.
  • There is a low number of dApps. Compared to other layer-1 blockchains, Cardano does not yet boast a vast dApp ecosystem.
  • Competitors. The issues of scalability, interoperability, and sustainability were novel in 2017. However, several other blockchains have solved these issues. As other blockchains catch up, Cardano’s unique selling points have become less unique.
  • Technology is still unproven. Due to Cardano’s smart contract infancy, the blockchain has not yet stood the true test of time. Claiming high transactional throughput, advanced interoperability, and sustainability is different from actually implementing it.

This Is How Cardano Works

Alongside transactional data, Cardano is a blockchain capable of processing computations, which are more commonly referred to as smart contracts. Smart contracts are a programable set of instructions that allow for the development of decentralized applications, such as decentralized exchanges (DEXs), borrowing and lending protocols, and NFTs.

1. Blockchain

The Cardano blockchain is a decentralized ledger composed of two layers: (1) the Cardano Settlement Layer (CSL) and (2) the Cardano Computation Layer (CCL). While the CSL handles transactional data, the CCL handles computational data. Keeping the two layers separate allows for the blockchain to develop proactively, changing and updating where necessary.

Alongside the two foundational CSL & CCL layers, the blockchain implements various proprietary technologies to address scalability, interoperability, and sustainability.

2. Proof-of-stake

The first of these proprietary technologies is a Proof-of-Stake consensus mechanism called Ouroboros. The Ouroborous protocol allows Cardano to scale as network usage increases, which should allow the blockchain to grow unhampered as the dApp ecosystem grows. In comparison to Proof-of-Work blockchains, which slow down at times of high network usage, Cardano’s network of validators can distribute resources accordingly if the blockchain experiences high transactional volume.

3. Staking

Cardano’s Proof-of-Stake mechanism relies on a network of validators, also formally known as staking pool operators. Each validator within the network must stake (lock away) native ADA coins to operate a blockchain node. The number of ADA coins and the length of time staked determine the likelihood that a validator will be chosen to add a new block to the blockchain.

Within the native Ouroboros protocol, Cardano also offers a Delegated Proof-of-Stake (DPoS) mechanism, which allows ADA token holders to support other validators rather than become validators themselves. For supporting validators within the network, delegators can earn a share of all rewards. The staking reward is 4.99% for delegators or 5.27% for running a node. The generous rewards are the reason Cardano is one of the best staking coins.

The Ouroboros protocol allows for a throughput of 250 transactions per second (TPS). Although this is lower than layer-1 competitors, such as Solana and Fantom, a native layer-2 scaling solution, known as Hydra, is expected to take the blockchain to 2 million TPS in the future.

4. Sidechain

To improve interoperability, Cardano has also developed a KMZ sidechain protocol, that allows users to use a blockchain bridge to convert Cardano to other blockchain ecosystems, and vice versa. Unlike other blockchains, Cardano was designed with the intention that, in the future, it is not going to be the only blockchain used within the cryptocurrency ecosystem.

5. Treasury

The operation of Cardano has been ensured thanks to the native treasury. The treasury collects network fees and distributes them to those contributing to the blockchain. This includes those involved with operations, those solving network problems, and the developer community. By using the treasury, Cardano can ensure that it is a self-sustained cryptocurrency project, that is capable of evolving over time.

Explaining ADA Tokens And What They Can Be Used For

ADA is the native cryptocurrency of the blockchain and is essential to the Cardano ecosystem. The coin is required to pay gas fees when a transaction is completed and can be staked to support the validator network. The coin provides governance to the protocol and, thanks to its intrinsic value, can also be used as a medium of exchange. ADA has a maximum capped supply of 45 billion coins.

Once purchased, ADA does not have to sit idly in a cryptocurrency wallet. With a growing ecosystem, the ADA coin can be utilized in a variety of ways. The coin can be staked to earn ADA rewards, used to interact with decentralized applications, used to purchase goods and services or provide liquidity within the growing DeFi ecosystem.

  • Stake to earn ADA rewards. The Cardano blockchain is secured by a network of validators that stake native ADA coins. All validators earn ADA rewards which are released after a new set of transactions have been validated. Those delegating ADA tokens earn a proportional share of all rewards. Cardano staking can be completed manually through the native Yoroi wallet. Although ADA can be staked manually, most popular cryptocurrency exchanges also offer staking options, whereby the exchange acts as the validator node in the network. This is a much simpler option for beginners. Review our guide on the best ways to stake ADA to earn rewards.
  • Medium of exchange. Although many will purchase ADA to hold for long-term capital gains, the ADA coin can also be used as a medium of exchange within some cryptocurrency platforms. The coin can also be used to top up crypto-backed debit cards which can then be used to pay for everyday purchases.
  • Interact with dApps. Although slow to start, Cardano is developing a strong ecosystem of decentralized applications. As these dApps are built on top of the Cardano blockchain, many offer ADA coin holders additional perks and services.
  • Earn interest in a savings account. Several cryptocurrency exchanges and lending providers allow Cardano to be deposited onto their platforms. Depending on the platform, the owner of the asset can earn interest on Cardano between 1% and 10% APY. Essentially, the platform will act as a middle-man and loan the assets to other users. In return, the person who deposits the ADA tokens is rewarded for lending their assets.
  • Earn yield from DeFi. The decentralized finance (DeFi) ecosystem is composed of dApps that offer users the ability to swap, lend, borrow, and trade without the need for a centralized intermediary. Most DeFi applications rely heavily on user-supplied liquidity, which provides yield earning opportunities for token holders. Opportunities include becoming a liquidity provider or yield farming. Although returns can be high, earning yield from DeFi apps is only suitable for advanced cryptocurrency users.

The Cardano Wallet

IOHK and Emurgo have released two native cryptocurrency wallets that allow users to interact with the Cardano blockchain. The wallets, Daedalus and Yoroi, were developed for slightly different end-users.

Daedalus is the protocol’s native full-node desktop wallet that allows users to establish a validator node within the network. The wallet can be synced with the Cardano blockchain to facilitate validation and security procedures. In comparison, Yoroi is referred to as a “light” mobile and web-based wallet, suitable for day-to-day transactions. The Yoroi wallet allows ADA token holders to delegate tokens to validators within the Cardano network.

Storing ADA Tokens

All cryptocurrencies, including ADA, must be stored within a cryptocurrency wallet. Each cryptocurrency wallet provides a public key that acts as an address for the transfer of digital assets, and a private key that is used to sign and approve all transactions. While the public address can be shared with people, the private key must be kept extremely secure.

Cryptocurrency wallets can be grouped into two distinct categories: (1) hot wallets and (2) cold wallets.

  • Hot wallets. A hot wallet is a cryptocurrency wallet that is either constantly or frequently connected to the internet. These types of wallets are typically either mobile applications, desktop applications, or web-based extensions. Hot wallets are extremely convenient for investors and can be connected to blockchains and dApps extremely quickly. However, frequent connection with the internet leaves these wallets more vulnerable to hacking attempts.
  • Cold wallets. In comparison, cold wallets are wallets that are only connected to the internet when in use. These wallets are usually a physical device, such as a hard drive or USB stick, that can be disconnected from a computer once a transaction has been completed. As the device can be disconnected and stored away from the internet, cold wallets are the most secure option for investors. For further information, read our comparison article on the best hardware wallets.

It can be prudent to separate digital assets across both hot and cold wallets. Investors should keep enough ADA within a hot wallet to perform required daily transactions. All other long-term holdings should then be stored offline in a cold wallet.

Frequently Asked Questions

Is Cardano Secure?

The Cardano blockchain has been designed with security as a key priority. Thanks to the blockchain’s two-layer CSL and CCL system, Cardano developers can constantly implement upgrades to enhance security features. The blockchain also consistently incentivizes members of the community to look for flaws. All destructive behavior can be prevented as long as 51% of the staked ADA coins are not controlled by malicious users.

Has Cardano Been Hacked?

Neither Cardano nor the dApps hosted on the blockchain have ever been exploited by a hack at the time of writing.

How Long To Receive Cardano Transactions?

The Cardano blockchain offers a throughput of approximately 250 transactions per second (TPS). Although the blockchain can process 250 TPS, the finality of each transaction depends on several other factors, such as network congestion. On average, the transfer time of a Cardano transaction is between 30 seconds and 5 minutes.

You might also be interested in

Top