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Smart Contracts – A Basic Guide

July 20, 2021
smart contracts

Smart contracts are self-executing contracts. They don’t require a third neutral party to oversee the contract. The terms and conditions of the contract are coded into a program that executes the conditions whenever they are met. They are simply programs that run when the conditions are met and are stored in a blockchain. The blockchain functionality helps to make these contracts secure and almost impossible to tamper with. Smart contracts were developed by Nick Szabo in 1994. Szabo defined smart contracts as “ computerized transaction protocols that execute the terms of a contract.”

How Do They Work?

They work via simple if/then statements coded inside a program. The terms of the contract get executed once the conditions are fulfilled. These statements are coded onto a blockchain. It could be used to release funds agreed between 2 parties, invest in a stock at a specific price, invest in a startup only once it releases its product, automatically charge fines once a person violates a rule, and so on and so forth. The blockchain is then updated, and the transaction is generated, which means now no one can tamper with the transaction.

A Digital Vending Machine

smart contracts

A vending machine is perhaps the best metaphor for smart contracts, as per Nick Szabo. With the right inputs, the right output is generated.

E.g. – Money + Snack selection = Snack 

This is the logic programmed into a vending machine.

Just like the way a vending machine removes the need for a vendor, smart contracts too can remove the need for intermediaries in many industries.

Advantages

  1. Speed And Accuracy – once the conditions are met the contract gets executed and saves time for both parties. Also, since they are digital and automated, there is no paperwork to process.
  1. Trust and Transparency – since there is no third party involved it’s almost impossible to tamper with the contract. Plus, due to the presence of blockchain, it’s impossible for one party to tamper with the terms since they are uploaded on a public ledger.
  1. Security and Savings – Blockchain enables maximum security that can’t be compromised. On the other hand, due to an absence of a third neutral party, both the contractor and contractee save up on additional fees paid.

Disadvantages

  1. Difficult To Edit – A smart contract program is almost impossible to change, moreover fixing an error in the code can be a tedious process.
  1. Problem With Vague Terms – often a contract contains terms that are vague in nature or may be difficult to write into code. Hence, it might not be feasible to use smart contracts for such terms and conditions.
  1. Need For The Third Party – even though you might not need a lawyer to draft the contract, the programmers might want to consult a lawyer regarding the terms and conditions. Hence, the third party still exists one way or the other.

Future Of Smart Contracts

Smart contracts are arguably an example of Amara’s Law – articulated by Roy Amara that humans tend to overestimate technology in the short run and underestimate the power of technology in the long run.Although smart contracts need to evolve before they are completely ubiquitous, they still possess a huge potential to revolutionize the way contracts will be made and maintained in the future. The true revolution of smart contracts will come in a way we can’t even imagine yet. Isn’t that exciting?

The Bottom Line

Smart contracts are still in a nascent stage as of now and can only be used to perform a bunch of basic functions. Ethereum is a big contributor to the facilitation and the popularisation of smart contracts. As discussed above, the potential for smart contracts is unprecedented and will revolutionize our life. Since they are connected to blockchain, experts also suggest a rosy future for cryptocurrency involvement in such contracts. Hence smart contracts shouldn’t be criticized or shunned despite their limited use as their true power is yet to be realized.

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References

https://corporatefinanceinstitute.com/resources/knowledge/deals/smart-contracts/

https://www.ibm.com/in-en/topics/smart-contracts

https://www.investopedia.com/terms/s/smart-contracts.asp

https://www.youtube.com/watch?v=ZE2HxTmxfrI

https://ethereum.org/en/developers/docs/smart-contracts/

https://content.enkronos.com/what-is-a-smart-contract-advantages-and-disadvantages/

https://corpgov.law.harvard.edu/2018/05/26/an-introduction-to-smart-contracts-and-their-potential-and-inherent-limitations/

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