A smart contract is a transaction protocol that handles the direct and automatic transfer of digital assets between parties under specific conditions. The contract performs the same functions as a normal contract while also automatically enforcing it. A smart contract is executed when a specific condition is met. There is no paperwork to deal with as the contracts are digital and automated.
Let’s explore the 101 of smart contracts.
Definition:
Smart contracts, first proposed by Nick Szabo in 1994, are self-executing agreements that are written in code and deployed on a blockchain network. Interestingly, Nick Szabo, who was an American computer scientist, invented a virtual currency called “Bit Gold” in 1998, 10 years before Bitcoin was introduced.
There is a common misconception that smart contracts contain legal language or terms of a contract between two parties. On the other hand, they are scripts containing if/then statements, functions, module imports, and other programming that automate the actions specified in a contract. Examples of smart contract applications include financial purposes such as investing, trading, lending, and borrowing.
Automation of Contractual Processes:
Smart contracts can streamline and automate various stages that are required to execute a contract. The execution process does not rely on a central authority as the contracts run on a decentralized blockchain network. The automation of contractual processes is one way and cannot be reversed after execution. This makes sure that the terms and conditions of a contract are not altered and are executed as per the mutual agreement of the parties involved.
There is, nevertheless, room for the conditional execution of smart contracts. In this situation, the contract specifies conditional statements, which are then implemented.
Decentralized Execution:
Smart contracts are not carried out by a centralized authority. This capability boosts trust and transparency significantly. Decentralization enhances the security and robustness of smart contract execution as well. It employs consensus mechanisms to validate and agree on the state of the blockchain. This, in turn, helps to ensure that the terms and conditions of a contract are properly executed.
Decentralized execution in smart contracts is necessary to build trust, maintain transparency, and automate transactions. It fosters a secure and inclusive framework to execute contractual agreements.
Immutable and Tamper-Proof:
Smart contracts cannot be modified once they are deployed on the blockchain platform. This is critical in maintaining the integrity and immutability of the contract. The protection against tempering is due to the consensus mechanisms and cryptographic principles that restrict any alterations in the contract.
The immutability of smart contracts allows users to verify the contract’s integrity. This is done by comparing the present state of the contract with its original deployment. This process boosts trust in the authenticity of the contract and prevents any unauthorized modifications. This feature allows the widespread use of smart contracts for legal and regulatory purposes.
Conditional Execution:
Predefined criteria or events can be set in a smart contract. In the banking and financial sector, this conditional execution is used to release funds that are held until certain criteria are met. Some conditions are also based on time and are usually used to execute recurring payments or renewable contracts. Businesses prefer conditional executions when they have to define their own rules or criteria. The set criteria are recorded on the blockchain, which enables businesses to verify and audit the execution of the contract.
Elimination of Intermediaries:
The peer-to-peer interactions in smart contracts eliminate the need for physical intermediaries involved in a transaction. This helps to reduce the cost and accelerate the speed of executions. Peer-to-peer interactions also allow the concerned stakeholders to interact and transact directly.
The elimination of intermediaries has the ability to significantly impact various end-use industries. Finance and banking, insurance, supply chain, management, and real estate are some of these industries that widely employ smart contracts to benefit from peer-to-peer interactions.
Trust and Transparency
Trust and transparency are the cornerstones of any blockchain feature. Smart contracts ensure that all stakeholders involved in a transaction are able to verify and audit their execution. This helps to build trust and mitigates the risk of potential misunderstandings between stakeholders.
Smart contracts actually create a trustless environment where stakeholders put their trust in the transparent and immutable nature of the blockchain rather than in a central authority. The other feature, transparency, plays a major role in maintaining the authenticity and integrity of transactions. This is done through recorded and visible transactions of the smart contract.
Self-Enforcing and Self-Executing:
Smart contracts enforce the agreed-upon terms and execute actions when the predefined criteria are met. This ensures that the parties comply with the set terms and conditions with no need for human intervention at all. The set of preset rules and logic in smart contracts govern how the contract will be carried out. These rules can include a variety of conditions, triggers, and actions, that enable complicated and curated workflows.
Conclusion
Smart contracts have revolutionized the execution of various transactions while boosting security, transparency, and efficiency in various sectors including supply chain management, insurance, real estate, and healthcare.
Ongoing research and development in the field of smart contracts aims to expand their capabilities even more. Smart contracts have the ability to interact with real-world data, which extends their reach to various applications.