Understanding Smart Contracts
A smart contract is a contract that is self-executing – one in which the terms and conditions for carrying out the agreement between buyer and seller are embedded in lines of code. The code and the associated agreements reside on a distributed, decentralised peer-to-peer (P2P) blockchain network. The idea behind smart contracts was first described in 1994 by Nick Szabo, a legal scholar and cryptographer, well before Bitcoin was invented.
At their heart, smart contracts promise greater security than contract law and lower other costs of contracting in every way imaginable. Smart contracts can automate a process, dispensing with the need for intermediaries; in doing so, they ‘cut out’ costs and can make a transaction quicker.
How Smart Contracts Work
A vending machine is a good analogy for smart contracts. If you wanted to buy, say, an escrow, a driver’s licence or anything else, you’d have to go to a lawyer or a notary, who’d charge you a fee, and you’d end up standing around waiting to get your document while they worked out the details and took the money. With smart contracts, you just drop a cryptocurrency into the vending machine (ie the ledger), or, to put it another way, you just click ‘buy escrow now’, and the escrow, driver’s licence or whatever you’ve bought drops into your account. Even more interestingly, smart contracts don’t just spell out the conditions and penalties of an agreement, as a traditional contract does, they also actually enforce those obligations for you.
The Process of Creating a Smart Contract
Creating a smart contract is a step-by-step process:
- Codify the contract: A programmer translates the rules into machine-executable language that can be run on a blockchain. Because once a smart contract is deployed on the blockchain, it cannot be altered.
- Code it and ship it on blockchain: As soon as the smart contract is programmed, it is uploaded to a blockchain and, once triggered, runs automatically according to the coded terms.
Instead, a smart contract is these rules encapsulated into a predictable and transparent decentralised system that enforces those rules for any and all participants.
- Execution: Transactions are executed when the conditions of the agreement are met.
- Trackable: These transactions are recorded and cannot be reversed.
1. Define the agreement: At the outset, parties define the rules, penalties and plan for the next n days, week, month or year.
Advantages of Using Smart Contracts
Smart contracts offer numerous advantages:
- Trust and transparency: This is because the contracts are encoded and distributed in a shared ledger, and are thus secure and incorruptible.
- Speed: Automated contracts instantly execute transactions without the delay of manual processing.
- Accuracy: Automated contracts reduce the risk of manual errors in filling out forms.
- Cost effectiveness: Since lawyers and brokers are not involved, smart contracts can cut costs and fees.
Use Cases of Smart Contracts
Smart contracts empower a future where traditional contracts can be seen and used in a new way, across multiple industries:
- Finance: In banking and finance, smart contracts automate the execution of payments and settlements at lower risk and lower cost.
- Insurance: They can automate claims processing, reducing fraud and increasing efficiency.
- Property: The sale of real estate can be handled more efficiently and securely, thus reducing paper-based processes and speeding up the exchange of title.
- Healthcare: in healthcare, a smart contract will securely link data from one system to another – creating a safe window for medical access, increasing patient privacy and trust in the exchange.
Blockchain is still evolving – and what’s possible with smart contracts only gets more exciting. For anyone who is looking to make their work more secure, faster and less costly, smart contracts are a critical development in the digital world, and learning how to use them can help to further business and better people’s lives by providing an easier, more protected and more efficient way to do business.
