smart contracts

Smart contracts are a fundamental component of many platforms and applications built using blockchain or distributed ledger technology. They can be used for a variety of use cases including tokenized assets, voting processes, digital wallets, decentralized exchanges and gaming.

In essence, a smart contract is a program that executes automatically based on if-then logic. Typically, a smart contract takes parameters (as inputs) from incoming blockchain transactions, processes these parameters according to some deterministic algorithm and generates either a state change in the smart contract memory or a new blockchain transaction.

For example, a smart contract could be responsible for triggering a reward in a game or for executing a transaction in real estate. Similarly, it could be used to settle insurance claims or to make payments on behalf of a person.

Unlike traditional software programmes, smart contracts can operate without the intervention of a centralised operator or a trusted third party, which is essential for their integrity. This is particularly important when they are triggered by external events, such as the weather or a security breach.

However, there are some limitations to smart contract coding and execution that need to be addressed before they can become widely adopted in commercial contexts. First, smart contracts cannot be codified in a way that encompasses all possible contractual obligations, as a few specific classes of obligations are excluded from their scope. This includes obligations that are regulated by law, such as those that require a party to comply with an obligation of good faith and fair dealing.

Second, some legal contracts refer to rights and obligations that are not under the control of the blockchain infrastructure, such as those referring to institutional power or prohibitions. These restrictions also prevent smart contracts from being fully compliant with the laws of some jurisdictions, such as e-commerce regulations.

Finally, if the underlying smart contract code does not perform the functions specified in the text of the agreement, the parties may be able to seek insurance against a loss. Although this would likely involve the creation of an escrow account by the contracting parties and possibly a code audit by a third party, it can still offer protection against the risk that the smart contract does not function as described in the text of the agreement.

In addition to eliminating the need for intermediaries, blockchain technology is a highly secure and cost-effective means of recording business agreements. Moreover, once deployed on a blockchain, smart contracts can be immutable, meaning that they can’t be changed even by their creators or their underlying coders, which ensures that they remain unbreakable and undeniable.