What are the uses of smart contracts?
Imagine that you are trying to sell your house. It is a complicated and somewhat arduous process that requires a lot of time and effort, in addition to being fraught with risks.
For this reason, the vast majority of home sellers decide to find a real estate agent to handle all the required tasks.
The previous case can be compared to the most widespread use cases of smart contracts, which are beginning to revolutionize the entire industry, by making processes easier and much less tedious.
The importance of smart contracts lies in their ability to solve the problem of trust, as smart contracts work on the principle of “if this happens – do it.”
This means that ownership of the house will be transferred to the buyer only when the agreed-upon amount is sent to the system.
Smart contracts also act as escrow services for users, where money and ownership rights are stored in the system and distributed to participating parties at the same time.
Moreover, hundreds of people check the transaction before it is executed to ensure it is error-free.
Since trust between parties is no longer an issue, there is no longer a need for an intermediary, as users can program a smart contract to perform all the functions that a real estate agent would normally perform.
The previous example is just one use case of many potential uses for smart contracts.
It can facilitate the exchange of money, property, and anything else of value in a way that ensures complete transparency and eliminates the additional costs associated with intermediaries.
In addition to the above, smart contracts eliminate the issue of trust between the two parties, as the contract code includes all the terms and conditions agreed upon by the parties, which are recorded on the tamper-proof blockchain network.
How do smart contracts work?
Simply put, smart contracts work much like traditional vending machines, where one party puts the required amount of cryptocurrency into the smart contract, and then the other party puts in the title to a house, driver’s license, or whatever else they want to hand over to the first party.
Interconnectedness concept
A smart contract can run on its own, or it can be implemented alongside any number of other smart contracts.
Smart contracts can be set up and programmed in such a way that they are like dominoes, for example, the successful execution of one smart contract can trigger another contract, and so on.
In theory, systems and organizations can base their entire operation on smart contracts.
To some extent, this is already implemented in various cryptocurrency systems, where all the rules are defined in advance, allowing the network to operate independently.
Smart contracts components
Essentially, there are three basic integrated parts involved in smart contracts, referred to as components:
- Signer: each smart contract can include more than one signatory. Signatories are defined as the parties who wish to use the smart contract, and who set the terms of the digital agreement.
- Agreement subject: The subject of the agreement can simply be an existing component of the smart contract environment. Therefore, smart contracts must have direct access and execution without creating barriers to components.
- Specific items: Any smart contract must include specific clauses, and these clauses need to be written in a fully mathematical manner and the appropriate programming language used to build the private smart contract environment.
Environment
For smart contracts to exist and function properly, smart contracts must operate in an appropriate and specific environment.
First and foremost, the environment needs to support public cryptographic features, which enable users to log out of a transaction using unique crypto tokens generated specifically for this purpose.
This is the exact system used by the absolute majority of cryptocurrencies currently in existence.
Second, the environment requires an open, decentralized, and automated database, which can be fully trusted by all parties to the contract.
Moreover, the entire environment must be decentralized for efficient smart contract execution.
Blockchain networks, such as the Ethereum blockchain, are ideal environments for executing smart contracts.
Finally, the source of the digital data used in the smart contract must be completely reliable.
This entails the use of basic SSL security certificates and secure communication protocols that are currently widely used and implemented automatically on most modern software.
Smart contracts features
- Independence: Smart contracts eliminate the need for an intermediary (third party), giving you complete control over the agreement.
- Trust: No one can steal any of your documents, as they are encrypted and stored safely on a secure, shared ledger. Furthermore, you don’t have to trust the people you deal with or expect them to trust you, because an unbiased smart contract system replaces trust.
- Savings: No need for notaries, real estate agents, consultants, assistants, or other intermediaries, thanks to smart contracts. This saves users from costly, avoidable fees.
- Safety: If contracts are executed properly, they are very difficult to hack. Furthermore, ideal environments for smart contracts are protected by sophisticated cryptography, specifically designed to keep documents safe.
- Efficiency: Thanks to smart contracts, you will save a lot of time, which is usually wasted on manually processing stacks of paper documents, sending and transporting them to specific places, etc.
Who created smart contracts and who uses them?
Smart contracts were first described by Nick Szabo, a computer scientist and cryptographer, in 1996.
For several years, Szabo reformulated the concept and issued numerous publications in which he explained the concept of doing business between strangers through e-commerce protocols.
However, smart contracts were not used until 2009, when the first digital currency “Bitcoin” appeared along with blockchain technology, which finally provided a suitable environment for smart contracts.
Interestingly, Nick Szabo designed a mechanism for a decentralized digital currency called “BitGold” in 1998, but it was never implemented, despite the features that Bitcoin boasted 10 years later.
Currently, smart contracts are mainly associated with digital currencies.
It is fair to say that one cannot exist without the other, and vice versa, as decentralized cryptocurrency protocols, are essentially a type of secure, decentralized, encrypted smart contract, which is widely used in most existing cryptocurrency networks.
Examples of using smart contracts
While the positions taken by governments, financial regulators, and banks around the world on cryptocurrencies range from extreme caution to careful acceptance, the technology behind them – blockchain and smart contracts – has been widely accepted as revolutionary and is being leveraged at all levels…
For example, recently, DTCC, along with four major banks, including Bank of America, Merrill Lynch, Citigroup, Credit Suisse, and AG. J.P. Morgan – in credit default swap with the help of blockchain technology developed by Axoni, using smart contracts.
The smart contract contained information used such as individual trade details and peer risk metrics, which provided a new level of transparency for partners and regulators, according to a press release.
This is not the only time the central finance sector has benefited from blockchain technology, as a consortium of 61 Japanese and South Korean banks has tested the blockchain network, and associated smart contracts, that Ripple uses to enable cross-border money transfers between the two countries.
The new system will start in 2018. Even Sberbank, a Russian government-controlled bank in a country notoriously hostile to cryptocurrencies, has tested the Ethereum blockchain and the smart contracts it enables.
Since smart contracts have been linked to digital currencies since their inception, their implementation is still mostly concentrated in the world of financial services and banking.
However, this emerging technology can be used by governments around the world and in many areas. For example, blockchain technology can make the voting system more accessible and transparent.
Moreover, blockchain can enhance the security of supply chains by monitoring goods and automating all tasks and payments.
The real estate, healthcare, tax, insurance, and other industries can also benefit from the implementation of smart contracts and the benefits they provide.
Smart contracts disadvantages
Smart contracts are a very young technology, and despite the many promises made by actors, they are still subject to problems.
For example, the code that forms the basis of the contract must be perfect and free of errors.
This can lead to errors, and sometimes, these vulnerabilities are exploited by hackers.
Moreover, the newness of technology still brings a lot of questions to the table.
How will the government decide to regulate such contracts? How will it be taxed? What happens if the contract cannot reach the subject of the agreement or if anything unexpected happens?
If any of this happened when concluding a traditional contract, it could be annulled in court, but in the case of smart contracts, “code is law” which greatly complicates the issue.
However, most of these problems only exist due to the newness of smart contracts as a technology.
Technology will certainly evolve. There is no doubt that smart contracts are about to become an integral part of our society.
