Wednesday, October 27, 2021

What are Smart Contracts? Explained.

The Takeaway:

The prime takeaways of the article below would be to know what is a smart contract. Also, we shall know who was the person who created these smart contracts and why? We shall even know its work process with a practical example and identify the various advantages and disadvantages this technology possesses. And lastly, we will see what changes it can bring in significant industries and which major industries it can disrupt? 

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Smart Contract: What it is?

What is a smart contract? A contract which is smart? Theoretically yes, but practically no. The definition is somewhat okay, but it should sound more accurately. So what is precisely the definition of a smart contract? Let us see its description below and also the functional process behind its creation. We shall also discuss the advantages and disadvantages of these smart contracts

How do these smart contracts work? Can they be used as an alternative in place of other agreements? Can they replace human beings? Are these contracts trustworthy? Do they help in reducing our price? Are they secure and efficient? What are the changes we can expect once this technology enters our market formidably? Let us not wait more and check out the answers for all these questions below.

 

1. What is a Smart Contract? Who invented Smart Contracts?

Smart contracts are the self-executing contracts found in the blockchain technology. These contracts enclose the terms of an agreement between a buyer and a seller. These contracts are self-executing and contain the terms of agreement written into lines of code.

These codes and agreements which are present in the smart contract exist across a decentralized and distributed blockchain network. What do these intelligent contracts help in? They help in permitting trusted transactions and agreements to be carried out within anonymous parties. 

This feature gets enabled without the need or use of a legal system, a central authority, or an external enforcement system. The rendered transactions by the help of smart contracts are irreversible, transparent, and traceable. 

Many people have assumed Blockchain technology as the primary foundation of Bitcoin, but it is not so. Blockchain technology has evolved so much over the years that it is almost on the verge of underpinning the virtual currency. 

Smart contracts were invented by an American computer scientist Nick Szabo, in the year 1994. He has also developed a digital currency by the name “Bit Gold” in the year 1998, which is just ten years before the launch of Bitcoin. Nick Szabo gives smart contracts the definition as an electronic transaction which can execute the terms of an agreement efficiently.

 

2. How can it establish trust between strangers on the internet?

Trust has become one of the burning issues in the world of digital currency. Customers always look for a way through which they safely and securely transact their digital money. Luckily, smart contracts provide a method and help them in transacting their digital currency to anonymous parties. This transaction is purely trustworthy, and the customers do not even have to worry about their privacy.

So let us understand how a smart contract works? Following are the main properties of a smart contract:

They are self-verifiable, self-executable, and tamper-proof. The digital currency has entered an era where paper contracts do not provide the accurate solution needed from them.

Here is where smart contract proves as the best alternative, as it is safe and also a digital contract, unlike the paper contracts. So, let us assume an example to understand the work process of smart contracts.

Suppose you are a landlord and you possess a lot of lands. Now, you have decided to sell your property. This selling process requires a lot of paperwork and signatures, right? It also demands ample communication between multiple parties. 

But you do have time for all these processes, so what will you do? You appoint a broker, technically a real estate agent here. The actual agent helps in selling your land and takes care of all the paperwork and other negotiations. But he extracts a fee as the payment for his services.

Along with this, there is another demerit here, which is you can never know what the real negotiation and other communication between the parties was. In simple words, you cannot trust the real estate agent. So basically, you will be losing a share of your profit and along with that, you will under huge risk also. 

So, which is the perfect alternative for such cases? Smart Contracts. Yes, intelligent contracts provide us with the most efficient solutions in such situations. Moreover, it also helps in relieving our burden and stress. These smart contracts get designed on a condition-based principle. 

What is a condition-based principle? The condition-based law is a principle which based on a condition that whatever may issues may happen, whether it is monetary or ownership will get resolved between the owner and the buyer only. Only when such terms are agreed, the transfer of ownership happens between the owner and the buyer.

Safe and secure right? No need of a broker and the risk of losing your money also won’t be an issue here. You guys will be asking how? Both the money and the right of possession of the land will get stored in a distributed system. This distributed system will get access to only those parties who were involved in the deal.

Even the money transfer will get witnessed by all the participants in the network, which eliminates the chances of getting cheated. Additionally, no intermediate parties will get involved here, and the deal will happen only between the owner and the buyer. So, the issue of trust will never persist under smart contracts.

And lastly, the functions which are performed by the agent, all of them get converted into line codes while using smart contracts. This feature helps in saving a lot of money from both the ends. 

 

3. Advantages and Disadvantages of Smart Contracts?

The advantages of smart contracts are as follows:

3.1 The decentralized data storage housed by these intelligent contracts provides with efficient reliability and immutability.

3.2 Smart contracts offer a high level of transparency to their customers. This attribute will increase the confidence of the parties involved in the deal.

3.3 The automation work process of smart contracts.

3.4 As smart contracts do not house any intermediate parties, it helps in cutting a lot of costs, i.e., in cost reduction.

3.5 Smart contracts make use of mathematical algorithms in their blockchain applications instead of bureaucratic applications. This feature helps them in obtaining a high speed of execution ability.

 

The disadvantages of smart contracts are as follows:

3.3.1 Smart contracts enclose a functional regulation which is legally weak

3.3.2 Smart contracts house a work process which cannot adjust

3.3.3 Smart contracts are highly dependant on programmers and are exposed to numerous bugs every time

3.3.4 Smart contracts enclose a system which doesn’t address the issue of processing speed and scalability. The algorithm is created in such a way where this issue seems to be not necessary to resolve.

 

4. Examples of Blockchains that employ Smart Contracts?

Some blockchains which have employed smart contracts are:

4.1 Etheroll

4.2 EtherDelta

4.3 Ethereum

 

5. What are the different use cases of Smart Contracts?

Following are the few use cases of smart contracts:

5.1 Insurance Policy: Nowadays, insurance policies take a lot of time for reimbursing a customer’s amount. This process of compensating is still old-fashioned and is manually done. This process can be changed, and insurance companies can use smart contracts as a perfect alternative.

What is needed to get your insurance approved? Like basically if you meet in an accident, those documents have to be submitted right? So such measurable factors necessary for the approval of insurance can be recorded into a blockchain. This feature will let us know whether the claims can be approved by providing us details of the factors triggered.

This attribute will reduce the incurring costs and will bring a sense of transparency to the process.

 

5.2 Copyrighted Content: Many industries face this problem, especially the movie and the music industry. A copyright holder should always get bestowed with a royalty in case you use something which is primarily his possession.

But how can you identify who copied whose content in a population of millions? A smart contract can do this easily. A system of blockchain smart contracts can track it easily when someone copies copyrighted material.

This attribute will not only eliminate piracy or copyright content but will also allow the royalty to get paid to the real content holder on time.

 

5.3 Bank Regulation: Bank regulations such as liquidity and capital requirements always get justified by the fact that there is a principal-agent problem. This principal-agent problem is the reason why the shareholders and depositors are unable to observe the bank’s ledger book.

At such situations, the bank runs will occur when the depositor feels that his bank might not be able to cover his deposits securely. This step makes him rush and withdraw his funds immediately. 

Here the usage of smart contracts will help the depositors and shareholders know that reserves and lending of the bank are within some parameters. This feature will lessen the happening of the bank runs to occur. 

 

5.4 Prediction Markets: What are prediction markets? Markets which allow the participants to predict the outcomes of events such as elections, sports, sales are called prediction markets. 

With the usage of smart contracts, prediction markets can quickly speed up in providing these decision-based results in quick time. These predictions later help in understanding the pulse of the public and even their opinion on it. 

The usage of smart contracts also ensures that the predictions housing large groups get recorded transparently. This factor helps in amassing better predictions. 

 

5.5 Digital Identity: The most significant threat of using something on the internet is the lack of security. Fortunately, we know that smart contracts can be used only to release a specific set of data to the other party mentioned in the contract. 

What does this mean? It means that no one can use or look into your data unless you verify it. And since it gets stored on the blockchain, there are no chances of altering it, and the authenticity is well maintained.

They also help in storing large amounts of data, and all get stored on the blockchain. This aids in enhancing the KYC verification as the process becomes quicker.

 

5.6 Property Handling: This example is already studied above. Smart contracts can easily facilitate property purchases. When you register a property on a centralized platform, it can help in preventing frauds and at the same time, can allow transaction transparency and allow trust.

Smart contracts help in convenient cross-border communication between the parties, which saves time. It also helps in piling up of numerous documents and bureaucratic labyrinths.

 

5.7 Taxation: If the Tax Department employs smart contracts, then they can help in easing the process of tax collection. Smart contracts help in automation of the tax payments, which will help in preventing people from committing mistakes such as breaching the due date or tax evasion.

All the legal records would duly store on the blockchain, which will ensure perfect transparency. This attribute will also make sure that mistakes like tax evasion are impossible to commit.

 

6. Which industries can this technology disrupt?

Here are the top seven industries which might get disrupted by the induction of this technology:

6.1 Banking and Financial Services

6.2 Real Estate and Property Dealing

6.3 Supply Chain Industries or Complex Industries

6.4 Intellectual Property or Copyright Content

6.5 Healthcare

6.6 Education

6.7 Cyber Security

 

In simple words, we can tell that smart contracts can disrupt any industry which involves the following such as transactions, security, and data transfer. Why? Because smart contracts enclose characteristics such as cryptography, tamper-proof, decentralization, and immutability. These factors can quickly help this technology disrupt the above-stated industries.

 

So, the point of closure here is:

Smart contracts are the newest additions from the blockchain technology. Though they are still not perfect, the time is nearing when they will be complete. They can quickly eliminate the roles of many intermediaries such as lawyers, brokers, and notaries as they do not require paper documentation.

The prime feature is that these contacts are self-executing and provide consumers with some well-versatile features. We are maximum a year or two far from witnessing the real success and growth of this technology.

So, in the above article, we discussed what a smart contract is and how it exists on the blockchain network. We also saw some of the advantages and disadvantages of this technology. We also threw some light on the significant changes it can bring in some industries and the major industries it can disrupt. So, let us embrace this new technology and utilize it as much as possible. 

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Disclaimer: The article reflects the opinions of the author and is not representative of Chaintimes’ views.
The article does not offer any investment advice. User discretion is advised when investing in or trading with cryptocurrency. Extensive and diligent research should be carried out by the reader before making a decision.

Harry Finnerty
Harry Finnerty
After completing his graduation from Strayer University, Harry started to work in the real estate industry. However, soon he realized that his real interest is in the financial industry and once he came to know about bitcoin and the technology behind it, he dedicated his life to understand and write about it.

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