How Smart Contracts Works

One of the main motives why blockchain brought so much recognition lately, is apparently due to the opportunity that it can allow extensive layers of trust among members in a given network. Blockchain technology has been named as a technology that is trustless, anonymous, accessible and decentralized. (You can read more about the major issues blockchain has to face, in terms of its security here.) What qualifies this, is its underlying algorithm, able to be built upon and combined into multiple solutions. If properly developed and integrated within the network, blockchain can completely change the way two users agree on the terms and fulfilling of a contract of any kind.

An innovative solution delivered by blockchain is Smart Contracts. These are lines of code included in a software that has been generated on a blockchain network. Smart contracts include all the critical information about the participants involved in the transaction and the responsibilities they are tied to, for the time extension of their endeavors. In a Smart Contract, there are no documents to sign and, more importantly, no third participants to pay to as the algorithm itself utilizes the role of watchdog.

As a computing system can automatically complete smart contracts, the inherent benefits of smart contracts cover low contracting, implementation, and decreased compliance expenses; which consequently makes them more economically viable. This is useful when compared with regular contracts for running various low-value transactions.

Smart contracts do offer a certain degree of necessity of humanity as the resulted terms are non-negotiable once they have been locked down in the code. However, it is also obvious that Smart Contracts permit for these types of relationships to become competitive, faster and terms protected. If one party stops complying with the requirements, the contract will automatically break on his side.

How Smart Contract Works Digram

Besides its computing inspired structure, a smart contract works exactly on the same terms as a conventional legal contract. This involves the negotiation part. Take the example of a business such as selling/buying a digital asset:

In a smart contract, if two individuals would like to sell/buy a digital asset, they wouldn’t need to use a third-party professional to verify the transaction. They would just need to use one of the many distributed ledger platforms online that allows for these kinds of contracts, agree upon the terms, duration, obligations, and performance, and when signing up, both would then automatically comply with the contract’s agreement. In fact, smart contract code can be written directly onto a block and can be examinable by the contracting parties ahead of time, just like a regular legal contract.

Now, the Ethereum network is the most ahead and evolved platform working with smart contracts. Ethereum enables developers to program their own smart contracts, or ‘autonomous agents’, as the ethereum white paper calls them. The language is ‘Turing-complete’, meaning it supports a broader set of computational instructions. In fact, Ethereum’s platform has been built specifically for creating smart contracts.

Smart Contract Application- Ethereum

The wide range of advantages that Smart Contracts can bring point to its functionality in ‘multi-signature’ accounts, so that funds are spent only when a requisite percentage of people accept; they can control transactions between users, say, if one buys insurance from the other; provide service to other contracts (similar to how a software library works) or save information about an application, such as domain registration information or membership records.

Another benefit of Smart Contracts is that they overcome what is called counterparty risk. What is written in this type of relationship is unambiguous as the arrangement brings out the one and only meaning of its code. All individuals incorporated in the contract, work on the regular terms that binds them. If any individual stops complying with any of its terms, it will be clear for the computer to pinpoint who did it. Regular contracts have always been controlled to some degree of risk. Smart contracts, however, leave minimum range for violations in agreements. Trusting networks with accepted terms decreases the chances of conflicts, which are time-consuming and costly.

View all posts by Aghiath Chbib

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