what-is-cryptocurrency-pre-mining-and-how-does-it-work?-–-makeuseof

What Is Cryptocurrency Pre-Mining and How Does It Work? – MakeUseOf

You’ve heard of cryptocurrency mining—when miners use hardware with high computational power to solve complex mathematical puzzles.

Standard cryptocurrency mining needs no further elaboration, but did you know that a cryptocurrency can be “pre-mined?” Heaps of cryptocurrencies are pre-mined before their eventual public release.

So what is pre-mining, and how exactly does it work?

What Is Cryptocurrency Pre-Mining?

One Ethereum coin surrounded by three crystals

Cryptocurrency pre-mining refers to the act of mining and distributing a cryptocurrency before it officially launches to the public. Pre-mining exists as a way to “reward” developers and investors of a blockchain project, especially before a cryptocurrency’s initial coin offering (ICO) on an exchange.

How Does Pre-Mining Work?

Illustration of a network of computers

Pre-mining is typically the reserve of the developers. They create a cryptocurrency for a specific blockchain protocol, then send it to the addresses or wallets of the cryptocurrency’s team of founders, developers, and investors. After a given time frame, the cryptocurrency is released to the public or other miners alongside its ICO or launch date.

The Advantages of Pre-Mining Crypto

Cryptocurrency mining hardware on a rack

Cryptocurrency pre-mining is seen as a way to reward those involved in launching a new cryptocurrency project. Distributing pre-mined tokens can be thought of as similar to a company’s giving away stocks to its employees before an IPO.

Developers devote a significant amount of their time and effort to the creation of a cryptocurrency, so it makes sense to reserve them a portion before a public release. This practice also serves as a financial incentive for the team behind a project. If they receive rewards, they are more likely to be motivated to develop the technology further and make it work in the long run.

Pre-mining can also be viewed as a marketing activity. When investors and supporters of a new cryptocurrency project receive pre-mined tokens and talk about them, it generates excitement, potentially raising the price of a coin before its launch.

The Disadvantages of Pre-Mining Crypto

Person with a hoodie sitting in front of a computer in a dimly lit place

Over the years, pre-mining has gained a negative reputation in the cryptocurrency community. This is because it is seen as an easy channel to orchestrate a pump-and-dump scheme, in which a cryptocurrency initially low in price is hyped up by scammers to inflate its price. Then, when the price is high, scammers pull the rug and sell their holdings for big profits.

The fact that a select group of people have exclusive access to a limited number of coins also highlights unfairness within the cryptocurrency community and a lack of transparency.

Case Study: Ripple (XRP)

One Ripple coin placed on a black surface in front of a keyboard

One cryptocurrency cited as an infamous example of a pre-mining is Ripple (XRP).

At the time of its launch in December 2012, one hundred percent of XRP had already been pre-mined, which at the time was worth $100 billion.

However, it was later reported that RippleLabs, the founding team behind Ripple (and co-founders Bradley Garlinghouse, Christian A. Larsen, and Jed McCaleb), allegedly controlled 50 to 70 percent of XRP’s supply. The company arose more suspicion when McCaleb announced his departure from Ripple Labs in 2014, after which he began selling colossal amounts of XRP.

According to analytics tracker Whale Alert, McCaleb sold more than one billion XRP between 2014 and 2019, pocketing approximately $135 million. In 2020, he sold another 1.2 billion XRP and cashed out $411 million. McCaleb’s multiple XRP sales greatly eroded confidence in the cryptocurrency and sent XRP’s price crashing. For instance, it plummeted 40% to an all-time low of $0.0023 in May 2014. In March 2018, it dipped below $0.60 after an all-time high of $3.40 just two months prior, per CoinGecko.

This ticking time bomb surrounding XRP exploded in December 2020: the SEC filed a lawsuit against Ripple for selling over 14.6 billion XRP for personal financial gain. In addition, the SEC alleges that Garlinghouse and Larsen made $600 million, facilitating XRP’s sales.

As of writing, Garlinghouse told CNBC that the SEC’s investigation is making “good progress,” and it will likely conclude by 2022.

3 Pre-Mined Token Examples

One Ethereum coin on a black surface

Ripple’s case illustrates the high risks of investing in a pre-mined cryptocurrency project and how easy it is for developers to commit fraudulent practices. However, despite Ripple, a few of the most successful cryptocurrencies by market capitalization today were pre-mined:

1. Ethereum (ETH)

Ether, the second-largest cryptocurrency, is known for being a pre-mined coin. Before its launch in 2015, 72 million Ether coins were pre-mined. Approximately ten percent of the total went to co-founders; ten percent went to the Ethereum Foundation, and the remaining 80 percent, or 60 million, were sold to the public, per Ether Scan.

The decision to pre-mine Ether at the time came under fire from Bitcoin entrepreneur Matt Odell, who criticized the move as a way for Ethereum’s stakeholders to hoard more money. However, founder Vitalik Buterin defended the decision:

https://twitter.com/VitalikButerin/status/1048076278044057601?s=20

2. Cardano (ADA)

Between 2015 and 2017, Cardano had what it describes as a “pre-launch sales event,” in which 25,927,070,538 ADA coins and 5,185,414,108 ADA vouchers were sold to the public.

3. IOTA (MIOTA)

IOTA is known for being a “cryptocurrency without a blockchain.” It was one hundred percent pre-mined, but IOTA claims that all MIOTA coins were sold ahead of its 2015 ICO. Founders and developers kept none and had to buy them just like regular members of the public.

Can You Trust a Pre-Mined Cryptocurrency?

Although many cryptocurrencies circulating today were pre-mined, that practice is now widely shunned by the cryptocurrency and blockchain community. However, Pre-mining has yet to be eliminated, and some new cryptocurrency projects still opt for it for promotional purposes. Thus, pre-mining as a whole certainly raises questions about the ethics behind the practice and the importance of trust between founders, developers, early investors, and the wider public.

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About The Author

Jie Yee Ong (64 Articles Published)

Currently based in Melbourne, Australia, Jie Yee has experience in writing about the Australian real estate market and the Southeast Asian tech scene, as well as conducting business intelligence research in the wider Asia-Pacific region.

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