Smart contracts have been revolutionising the way we execute agreements in the modern world. These are not your typical contracts, but computer programmes that automate the enforcement of agreements, stored securely on a blockchain. They trigger actions, such as transferring funds, when predefined conditions are met, ensuring a seamless, trustworthy, and efficient process.
Imagine you are the manufacturer for a large pharmaceutical company. Presently, you are using a traditional written contract with your customer, the pharmaceuticals company, which sets out that if you manufacture 50,000 units of paracetamol, you will be paid £100,000.
By opting for a conventional written contract, you inherently rely on your customer’s integrity to honour the agreement and compensate you upon successful production of the goods. In this scenario, you place your trust in the pharmaceutical company not to abscond with the 50,000 units or abruptly renege on its contractual commitment. If your customer does so, you are then left with the burden of pursuing your customer to either recover your product or payment under your contract.
Smart contracts serve as a transformative solution by effectively closing this trust gap. Instead of relying solely on the belief that the pharmaceutical company will fulfil its payment obligations, a smart contract takes a proactive approach. It is programmed to autonomously initiate the release of funds from your customer’s bank account precisely when the 50,000th unit has been manufactured.
As well as a reduction in the trust gap, smart contracts also provide the following benefits:.
Speed: A smart contract is executed immediately upon the conditions being fulfilled, so there is no need for intermediaries to manage the transaction. This means that manual time spent managing the contract is removed.
Reduces Costs for Intermediaries: Automation removes the need for and costs of intermediaries like banks and notaries.
Security: Smart contracts utilise blockchain, a secure, tamper-resistant environment. The transaction records within smart contracts are fortified through encryption, rendering them exceptionally challenging to breach or manipulate.
Decreases Breach of Contract: Smart contracts significantly diminish the incentive for parties to breach their contracts. Performing parties are motivated by automated fee releases, ensuring compliance to receive compensation. Similarly, paying parties cannot evade commitments, as fees are automatically released, reducing breach occurrences. This dynamic minimises legal disputes, fostering a more efficient and trustworthy contractual landscape.
However, challenges and disadvantages do exist.
Requirement for Technical Experts:; Non-technical parties may struggle to transcribe oral agreements or written contracts into code, necessitating reliance on technical experts. For basic agreements, there may be text templates that can be used by non-technical parties, however, for customised agreements, parties may need a separate agreement with a smart contract programmer.
Amending Agreements: Blockchains are immutable, and so they cannot be easily modified or reversed. With traditional written contracts, parties can negotiate changes and incorporate amendments to contractual arrangements relatively easily. With a smart contract, the flexibility to renegotiate the contents of a contract is removed.
Cannot Guarantee Payment: Companies are constantly moving funds throughout their organisation and are unlikely to keep in one place and at all times the total amounts that might be payable under a long-term contract. Although the smart contract automates the payment of funds upon certain conditions being satisfied, it cannot transfer money from an account that contains no funds.
Reliance on Off-chain Resources: Smart contracts cannot automatically execute the contract unless information is “pushed” to the smart contract that the conditions of the contract have been satisfied. For example, once you have manufactured your 50,000 units, someone will need to relay this information to the smart contract. There are trusted third parties, called oracles, that retrieve off-chain information and push the information to the smart contract. However, this adds another layer of trust and potential points of failure.
Smart contracts stand at the forefront of digital transaction innovation, promising enhanced efficiency, reduced costs, and unparalleled security. However, overcoming challenges related to technical complexity, flexibility, and external dependencies is crucial for their broader adoption. As technology progresses, the continuous refinement of smart contracts will unlock their full potential across diverse industries, making them an indispensable tool in the digital economy.
