Solving Challenges in the NFT Market! What is ERC-404?
ERC-404 was first introduced in February 2024 and is an experimental token standard developed by the Pandora team (Note: as of February 16, 2024, ERC-404 has not yet been included in the standard Ethereum EIP). It combines the liquidity of ERC-20 tokens with the uniqueness and collectability of ERC-721 non-fungible tokens (NFTs).
ERC-404 allows NFTs to be divided into smaller parts, which has the potential to address some of the major challenges in the NFT market, such as lack of liquidity and price volatility.
Pandora Project: The First Application of ERC-404
Pandora is the first project to be launched using the ERC-404 standard.
When users purchase PANDORA tokens, the system automatically mints a randomly generated Pandora NFT. Conversely, when PANDORA tokens are sold, the associated NFT is destroyed. This mechanism means that Pandora NFT holders can enjoy the $17 million liquidity in the PANDORA token pool without worrying about the liquidity of the NFT.
Pandora NFTs exist in five different rarities, with one rarity being randomly chosen each time they are minted.
However, when users transfer PANDORA tokens from one wallet to another, the NFT is also destroyed and regenerated. Therefore, the only way to avoid the regeneration of NFTs when transferring them is to directly buy and sell the NFT.
The Potential and Risks of the Token Standard
The core technological innovation of ERC-404 is that it allows FTs and NFTs to coexist within the same framework and enables seamless conversion between the two.
This new token standard, which combines fungible and non-fungible tokens, can be likened to a loyalty card, where points (FTs) are exchanged for physical goods (NFTs). This innovation not only expands the possibilities and imagination of digital assets but also combines the liquidity of ERC-20 tokens with the uniqueness and collectability of ERC-721 tokens.
Thanks to the innovative potential of this token standard, two leading trading platforms, Binance and OKX Web3 Wallet, have already launched markets that support ERC-404 token trading.
In addition to $Pandora, other tokens based on the ERC-404 concept, such as $DEFROGS, $RUG, $ANON, and $CRYSTAL, have been listed for trading.
However, the ERC-404 standard currently has the following potential risks:
1. Indiscriminate transfer of NFT rarities:
When trading FTs, the corresponding NFTs may be transferred to the buyer without considering the rarity of the NFT. This could result in the original owner losing a higher-value NFT.
2. FT precision issues leading to accidental burning of NFTs:
Due to FT precision issues, even a slight decrease in the quantity of FTs (e.g., from 3 to 2.9999) could result in the burning of an NFT.
3. Increased gas consumption:
The complex contracts of ERC-404 can lead to increased gas consumption. This is especially true when handling FT and NFT transfers and burning mechanisms, as they require more computational and storage operations, increasing transaction costs.
4. Limitations of whitelist mechanisms:
While the whitelist mechanism allows certain pairs/routers to process FT transactions without frequent handling of NFTs, it may limit the flexibility and openness of the system. If revokeOwnership is executed without updating the whitelist mechanism, the availability and security of the system may be compromised. If revokeOwnership is executed, the subsequent whitelist mechanism will not be updated, potentially resulting in the loss or opacity of contract control and increasing the risk of contract management.
Market Reaction to ERC-404
Due to the potential issues with ERC-404, Ethereum developers (codenamed “cygaar” and “quit”) quickly introduced DN-404 to address some core issues, especially efficiency and transaction costs:
1. Improved efficiency and reduced transaction costs:
DN-404 is expected to reduce the impact on transaction costs by 20% through optimized smart contract structure and operations. This is achieved by splitting the functionality of ERC-20 and ERC-721 tokens, which were originally attempted to be merged into a single contract in ERC-404, into two separate contracts – a “base” contract based on ERC-20 and a “mirror” contract based on ERC-721.
2. Simplified smart contract complexity:
By separating ERC-20 and ERC-721 functionality into two independent contracts, DN-404 reduces the complexity of smart contracts. This not only makes contracts easier to understand and audit but also reduces the risk of introducing vulnerabilities due to complexity.
3. Compatibility with existing standards:
DN-404’s design allows the “mirror” ERC-721 contract to be treated like any standard ERC-721 token, ensuring compatibility with existing protocols that support ERC-721. This design supports broader ecosystem integration without the need to modify existing infrastructure to accommodate the new token standard.
4. Seamless integration process:
When the underlying ERC-20 tokens are transferred, the corresponding mirror NFTs are automatically minted or destroyed, providing a smooth and seamless user experience while maintaining a close connection between FTs and NFTs.
5. Handling extreme cases:
DN-404 aims to address potential issues that ERC-404 may encounter under certain edge conditions, such as the problem of regenerated NFTs being different from their original state, by using clearer contract logic and operations.
In addition, SmartLayer has proposed further integration with SmartLayer’s TokenScript to allow users to independently choose which NFT to burn when trading ERC-404 NFTs. This allows for the retention of high-rarity NFTs while refreshing the rarity of NFTs.
Conclusion
ERC-404, similar to the recently hyped Tiny SPL-based NUTS on Solana, breaks the framework of “tokens” and “NFTs” and gives NFTs native financial attributes, seamlessly integrating them into DeFi protocols, enabling easy implementation of financial applications such as lending, collateralization, and leverage.
Projects like Pandora have already proven the practicality and market acceptance of this hybrid standard. Whether ERC-404 ultimately becomes the mainstream token standard in the Ethereum market or not, it offers an innovative approach and brings more flexibility and possibilities to the world of cryptocurrencies.
Viewpoint articles present diverse opinions and do not represent the stance of “WEB3+.”
Proofreading Editor: Gao Jingyuan