Non-Fungible Tokens are Digital Property Rights

Non-Fungible Tokens (NFTs) are well-known as one of the most hyped use cases for blockchains. Celebrities, sporting codes and major brands have created or promoted NFTs, captivating mass audiences and driving fan engagement.

The astronomical sale prices of NFTs have caused a media frenzy. In 2021, for instance, over 28,000 people came together to spend a total of $91 million on an NFT project called The Merge. This sale followed a famous $69 million sale of Beeple’s artwork. Such figures have led many to view NFTs as purely speculative assets.

In this article we will discuss how NFTs are a key building block of a digital economy — they are digital property rights. By examining NFTs through the lens of property rights theory, we aim to demonstrate how they can underpin a new digital economy.

What are Non-Fungible Tokens (NFTs)?

We can split the types of tokens on blockchain networks into two distinct categories: fungible tokens and non-fungible tokens.

Fungible means an asset where one unit is interchangeable for another unit of the same asset. Fungibility is familiar. Money is fungible in the sense that one $50 note is interchangeable for another $50 note. Many cryptocurrencies are also fungible – 1 BTC is interchangeable for another 1 BTC. Each unit is considered to be the same.

Non-fungible means that one unit is not directly interchangeable with another. You care which asset you have. Each asset represents something unique. In blockchains, non-fungibility manifests in NFTs. Each NFT is unique in some way, such as representing some unique piece of art or someone’s identity.

Just like fungible cryptocurrencies, NFTs exist as code on blockchain networks. The characteristics of blockchains — including censorship-resistance and transparency — mean that NFTs can be used as digital proof of ownership. They are digital property rights.

NFTs are bundles of property rights

Historically the enforcement of property rights has played a fundamental role in incentivising investment, innovation, and productivity. Property rights enable us to coordinate and trade with each other in ever more complex ways.

Property rights are best understood not as binary but as a “bundle” of rights. Those rights can include the ability to use the asset, transfer it, or even destroy it. Over time we have developed new types of property rights. Indeed, as economist Harold Demsetz described, the ways that we build property rights are shaped by legal systems, cultural norms, technologies and economic context.

While it may look like we have property rights in digital platforms today (such as our social media profile), they are maintained by centralised intermediaries. Blockchains and smart contracts enable us to create new bundles of digital property rights that are encoded into the digital asset and are maintained by an underlying blockchain network.

Each NFT on a blockchain network is distinct. For buyers of NFTs, this helps them to ensure they are buying original digital assets, rather than a digital copy. They also have more direct control, sometimes including moving NFTs access platforms and ecosystems. For producers, NFTs enable them to embed other rights, such as royalties, and have more direct access to buyers.

Use cases for NFTs

To better understand how NFTs function as digital property rights, here we explore some of their practical applications.

Many parts of our economy rely on trust and verification of bundles of rights. NFTs will disrupt many of these existing systems of property rights management. While NFTs are most famous for representing digital artworks, they are better understood as an on-chain digital asset that can represent some rights or data elsewhere.

Credentialing systems are one example. Many actors (such as employers) require evidence of credentials from elsewhere (such as proof of a university degree). NFTs enable new types of credentialing systems that no longer rely on gated access to credentialing systems, where employers individually contact universities, but rather rely on people holding proof through an NFT.

Identity systems are also being impacted by NFTs. Rather than maintaining identity through centralised lists, NFT infrastructure such as the Ethereum Name Service (ENS) provide a decentralised alternative. Other tokens are designed to be not transferable across addresses, enabling further identity management.

Physical tangible assets can also be represented through NFTs. An NFT can act as a digital twin of a physical product moving along a supply chain. As the physical product moves across borders and organisational boundaries, the NFT digital twin can also be transferred. The potential benefit here is a more transparent and efficient supply chain.

Each of these examples demonstrate how the nature of how we record and verify bundles of property rights is changing – whether those rights are credentials, identity or physical asset ownership. Those bundles are represented and coordinated through blockchain networks, rather than through centralised intermediaries.

What to consider as an NFT consumer

While it is useful to think of NFTs through the lens of property rights, it is useful to be wary as a consumer of those rights. The rights that constitute an NFT are partially expressed in blockchain-enabled smart contracts but they are also governed by terms and conditions off-chain. Consumers should consider these documents to determine the bundle of rights that a given NFT represents.

Intellectual Property

Intellectual Property (IP) rights encompass a bundle of exclusive rights granted to individuals or organisations for their creative or innovative works. Copyright exists for literary, artistic, and musical works. Patents can be used to protect inventions and processes. Trademarks can protect rights in brand identification. And confidential business information such as logistical processes are known as trade secrets.

Yet legal enforcement of property rights related to NFTs varies across jurisdictions. The emergence of NFTs has sparked discussions and debates regarding IP, copyright, and ownership laws. As NFT use cases evolve, legal frameworks will have to adapt to address these emerging challenges and provide clearer guidelines for property rights in the digital realm.

Data management

Consumers should also consider where the data rights that an NFT represents are held. While many NFTs establish provenance of ownership, they may point to data stored on centralised servers.

Some NFT data (the digital asset, certificate and its metadata) are stored entirely and securely on a blockchain network. But generally some data is stored off-chain on a centralised server. While the NFT establishes an on-chain record of ownership, the underlying data (such as an image of digital artwork, or credential record) may be controlled elsewhere by a third party, who can edit, amend or delete that data. This situation underscores the need to carefully understand how the data corresponding to an NFT is stored and controlled.

New ways to mitigate these risks are emerging. For instance, minting NFTs with reference to the InterPlanetary File System (IPFS). IPFS is a file sharing peer-to-peer network established for storing and sharing data in a distributed file system.

Digital property rights for a digital economy

Just as the development of property rights underpinned modern economic growth, NFTs are key building blocks for a digital economy. They provide new mechanisms for on-chain proof of ownership. While it is expected NFTs will disrupt many industries that rely on proof and validity of ownership, consumers should always do their own due diligence on what constitutes that bundle of rights, including intellectual property implications and data management practices.

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Dr Darcy Allen, Dr Aaron Lane and Dr Max Parasol are with the RMIT Blockchain Innovation Hub, RMIT University.