ERC-404: Revolutionary Token Standard Or «Slot Machine For Degens»?

What Is ERC-404?

The developers are positioning ERC-404 as a new standard designed to combine the best features of exchangeable tokens (ERC-20) and NFTs (ERC-721). Its goal is to address the liquidity issue of NFT collections and expand their use in the DeFi ecosystem.

The Emerald project first proposed the hybrid token format but eventually failed. The founder claimed to have combined interchangeable and non-interchangeable tokens, but in reality, it was just a rug pull scheme. The Pandora team took this idea and improved upon it, introducing a new smart contract standard.

Technically, ERC-404 is a smart contract template. It mixes ERC-721 and ERC-20 token transactions. The contract doesn’t change existing standards. Instead, it syncs transactions with different types of assets.

It’s important to note that ERC-1155 already exists on the Ethereum network. This standard enables combining different types of tokens within a single smart contract, creating fractional NFTs. The main distinction between ERC-1155 and ERC-404 is that the former pertains to a specific unique NFT, while the latter can be applied on a collection scale.

The Ethereum Foundation or the community does not currently recognize ERC-404. The EIP page on Ethereum.org is no longer available. Additionally, this smart contract template has not been audited, leaving its vulnerability open to question.

Pandora is the biggest project using ERC-404. It’s too early to say it’s a standard yet. Future implementations of ERC-404 may introduce new features and mechanisms.

How It Works Using The Pandora Example

The implementation of Pandora involves two assets:

• the ERC-20 fungible token (PANDORA);
• the non-fungible token ERC-721 (Replicants collection).

Each time a user buys a PANDORA, the mint-contract generates a Replicants NFT and sends it to his wallet. When the token is sold or transferred to another wallet, the NFT is destroyed.

Yet, transferring or selling an NFT does not result in the burning of the PANDORA token. Instead, the system sends the interchangeable token and the Replicants copy to the new owner’s wallet.

So, having an NFT from the Replicants collection makes selling easy without needing complicated or slow marketplaces. One can simply exchange PANDORA on a decentralized platform.

ERC-1155 focuses on individual tokens, not collections. It’s not the best for regular collections where each NFT is unique and valued for its attributes. Replicants, on the other hand, are completely randomized.

Every time someone buys a PANDORA mint-contract, it makes an NFT with random parameters. These parameters vary in rarity. So, buyers of interchangeable tokens can’t know how rare the NFT they’ll get will be. This approach creates a fair environment for all users and introduces an element of unpredictability and gambling to trading.

How Is Increased Liquidity Provided?

ERC-404 aims to give buyers two types of assets. They can choose which market liquidity to use for trading. Specifically, a PANDORA owner can either:

• exchange fungible token with instant liquidity for DEX;
• sell the NFT on a marketplace with its bids and auctions.

Linking tokens eliminates the possibility of a double sale. For example, if you sell PANDORA, it burns the NFT. If you sell the NFT, it transfers the PANDORA token to the new owner. This feature of ERC-404 limits the standard functionality of tokens to some extent.

The default mechanism aims to equalize the market price of PANDORA and the Replicants collection floor price. So, if one market goes up or down, the other will do the same because of the arbitrage opportunities it creates.

Why Is The Trend Gaining Steam?

ERC-404 is one of the hottest topics in the crypto community on X. The growth of interest in the new tokens is demonstrated by the trading volume, market value of PANDORA, and price of Replicants. There are several reasons for this explosive success:

• technological innovation – ERC-404 brings a new token standard with a never-used-before transaction format. This is interesting because the Friend.Tech mechanism of changing key values gradually was innovative back then;
• arbitrage opportunities – the price gap between NFTs and PANDORA tokens offers profit chances. For example, if the lowest NFT price is higher than the token exchange rate, it’s better to buy the token and sell the NFTs you get on the marketplace;
• element of randomness – since the rarity and attributes of NFTs are unknown beforehand, users are motivated to sell interchangeable tokens and then buy them again from the market or transfer them between wallets to start a burn and mint a new, potentially more valuable NFT. This increases both trading volumes and the total number of transactions using PANDORA;
• expectations – currently, the Replicants collection consists of boxes of various colors. The project’s name, Pandora, suggests that these boxes are meant to be opened, which adds to the users’ curiosity. Moreover, the project’s X page has featured a teaser for a future drop.

Currently, the minting mechanism of Pandora resembles a limited-risk slot game. Users buy PANDORA tokens and ‘spin the slot’ to receive a random NFT. The NFT will be worth at least as much as the token’s market price and could be even higher if the user is lucky.

But the main question is the likelihood of Pandora entering a ‘death spiral’ like the one that caused Terra’s downfall. Terra’s collapse was triggered by a system where two tokens were linked through minting and burning.

Common Questions

In our study of ERC-404, we found that users have questions about the new standard. This is because the developers haven’t explained it in detail. In this article, we will address the most common inquiries.

• What happens if I buy less than one PANDORA token?

In this case, you’ll get the bought fungible tokens, but not an NFT. To start a mint, you must have at least 1 PANDORA in your wallet balance. We consider the total amount, not just a single purchase. For example, you can buy 0.6 tokens first, and then another 0.4 tokens, and then receive an NFT.

• If there are several NFTs in a wallet, which one gets burned when the PANDORA is sold?

According to some sources, changes affect the last NFT received. For example, if you buy three PANDORA tokens and get red, green, and purple boxes, and then sell 0.5 PANDORA, the protocol burns the purple box.

Users suggest moving NFTs to another wallet or selling them instead of PANDORA tokens to avoid burning.

• Is it possible to sell two assets at once?

The technical description states that transactions with NFTs do not have any effect. But this wording might make people think that selling the NFT won’t impact the PANDORA token in the seller’s wallet, which is wrong. As mentioned before, when someone sells an NFT, the exchangeable token goes to the new owner.

We’ll keep watching this trend and how the ERC-404 standard develops. We’ll let you know about any big changes.