A Smart Contract (or cryptocontract) is a computer program that directly and automatically controls the transfer of digital assets between the parties under certain conditions. A smart contract works in the same way as a traditional contract while also automatically enforcing the contract. Smart contracts are programs that execute exactly as they are set up(coded, programmed) by their creators. Just like a traditional contract is enforceable by law, smart contracts are enforceable by code.
- The bitcoin network was the first to use some sort of smart contract by using them to transfer value from one person to another.
- The smart contract involved employs basic conditions like checking if the amount of value to transfer is actually available in the sender account.
- Later, the Ethereum platform emerged which was considered more powerful, precisely because the developers/programmers could make custom contracts in a Turing-complete language.
- It is to be noted that the contracts written in the case of the bitcoin network were written in a Turing-incomplete language, restricting the potential of smart contracts implementation in the bitcoin network.
- There are some common smart contract platforms like Ethereum, Solana, Polkadot, Hyperledger fabric , etc.
History:
In 1994, Nick Szabo, a legal scholar, and a cryptographer recognized the application of a decentralized ledger for smart contracts. He theorized that these contracts could be written in code which can be stored and replicated on the system and supervised by the network of computers that constitute the blockchain. These smart contracts could also help in transferring digital assets between the parties under certain conditions.
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Features of Smart Contracts
The following are some essential characteristics of a smart contract:
- Distributed: Everyone on the network is guaranteed to have a copy of all the conditions of the smart contract and they cannot be changed by one of the parties. A smart contract is replicated and distributed by all the nodes connected to the network.
- Deterministic: Smart contracts can only perform functions for which they are designed only when the required conditions are met. The final outcome will not vary, no matter who executes the smart contract.
- Immutable: Once deployed smart contract cannot be changed, it can only be removed as long as the functionality is implemented previously.
- Autonomy: There is no third party involved. The contract is made by you and shared between the parties. No intermediaries are involved which minimizes bullying and grants full authority to the dealing parties. Also, the smart contract is maintained and executed by all the nodes on the network, thus removing all the controlling power from any one party’s hand.
- Customizable: Smart contracts have the ability for modification or we can say customization before being launched to do what the user wants it to do.
- Transparent: Smart contracts are always stored on a public distributed ledger called blockchain due to which the code is visible to everyone, whether or not they are participants in the smart contract.
- Trustless: These are not required by third parties to verify the integrity of the process or to check whether the required conditions are met.
- Self-verifying: These are self-verifying due to automated possibilities.
- Self-enforcing: These are self-enforcing when the conditions and rules are met at all stages.
Capabilities of Smart Contracts
- Accuracy: Smart contracts are accurate to the limit a programmer has accurately coded them for execution.
- Automation: Smart contracts can automate the tasks/ processes that are done manually.
- Speed: Smart contracts use software code to automate tasks, thereby reducing the time it takes to maneuver through all the human interaction-related processes. Because everything is coded, the time taken to do all the work is the time taken for the code in the smart contract to execute.
- Backup: Every node in the blockchain maintains the shared ledger, providing probably the best backup facility.
- Security: Cryptography can make sure that the assets are safe and sound. Even if someone breaks the encryption, the hacker will have to modify all the blocks that come after the block which has been modified. Please note that this is a highly difficult and computation-intensive task and is practically impossible for a small or medium-sized organization to do.
- Savings: Smart contracts save money as they eliminate the presence of intermediaries in the process. Also, the money spent on the paperwork is minimal to zero.
- Manages information: Smart contract manages users’ agreement, and stores information about an application like domain registration, membership records, etc.
- Multi-signature accounts: Smart contracts support multi-signature accounts to distribute funds as soon as all the parties involved confirm the agreement.
Types of Smart Contracts
1. Smart Legal Contract:
There are legal guarantees for smart contracts. They follow the format seen in contracts: “If this occurs, then this will occur.” Legal smart contracts provide more openness between contracting entities than traditional documents because they are stored on blockchain and cannot be altered. Contracts are executed by the parties using digital signatures. If certain conditions are met, such as paying a debt when a predetermined date is reached, smart legal contracts may operate on their own. If stakeholders don’t comply, there may be serious legal ramifications.
2. Decentralized Autonomous Organizations (DAOs):
DAOs are democratic organisations with voting powers granted by a smart contract. A decentralised autonomous organisation, or DAO, is a blockchain-based entity with a shared goal under collective governance. There is no such thing as an executive or president. Instead, the organization’s operations and the distribution of assets are governed by blockchain-based principles that are incorporated into the contract’s code. One example of this kind of smart contract is VitaDAO, which uses technology to power a community dedicated to scientific inquiry.
3. Application Logic Contracts:
Application-based code that usually keeps up with multiple other blockchain contracts makes up application logic contracts, or ALCs. It permits device-to-device interactions such as blockchain integration and the Internet of Things. These are signed between computers and other contracts rather than between people or organisations like other kinds of smart contracts.
How Do Smart Contracts Work?
A smart contract is just a digital contract with the security coding of the blockchain.
- It has details and permissions written in code that require an exact sequence of events to take place to trigger the agreement of the terms mentioned in the smart contract.
- It can also include the time constraints that can introduce deadlines in the contract.
- Every smart contract has its address in the blockchain. The contract can be interacted with by using its address presuming the contract has been broadcasted on the network.
The idea behind smart contracts is pretty simple. They are executed on a basis of simple logic, IF-THEN for example:
- IF you send object A, THEN the sum (of money, in cryptocurrency) will be transferred to you.
- IF you transfer a certain amount of digital assets (cryptocurrency, for example, ether, bitcoin), THEN the A object will be transferred to you.
- IF I finish the work, THEN the digital assets mentioned in the contract will be transferred to me.
Note: The WHEN constraint can be added to include the time factor in the smart contracts. It can be seen that these smart contracts help set conditions that have to be fulfilled for the terms of the contract agreement to be executed. There is no limit on how much IF or THEN you can include in your intelligent contract.
