Smart Contracts: An Overview

Smart Contracts: An Overview

Michael Casparus Laubscher (Faculty of Law, North-West University, South Africa) and Muhammed Siraaj Khan (Faculty of Law, North-West University, South Africa)
DOI: 10.4018/978-1-7998-3130-3.ch007

Abstract

When Nick Szabo pioneered the idea of a smart contract in the 1990s, the economic and communications infrastructure available at that time could not and did not support the protocols needed to execute and apply smart contracts. While smart contracts may be viewed as an example of the use of blockchain and blockchain technology which offers great opportunities to the field of law; others are more sceptical. The use of smart contracts in law is anything but straightforward, but this should not deter jurists from investigating the opportunities this instrument offers. This chapter aims to provide an overview of smart contacts, explaining how they work, the ways they differ from written contracts, their legal status, and the advantages and disadvantages associated with using them. Finally, it identifies the main challenges facing businesses and the legal profession with regard to the expanding use of smart contacts.
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Introduction

At the time that Nick Szabo initiated the notion of a smart contract back in the 1990's, the economic and communications infrastructure of the time did not have the capability or capacity to support the protocols which are needed to execute and apply smart contracts (Omohundro, 2014). Times have changed, and today the necessary infrastructure is available which has led to a wide range of industries, including the field of law, leading the way in the testing, development and implementation of smart contracts (Giangaspro, 2017).

The idea and concept of a smart contract can be traced back to the 1990s (Hu et al., 2019). A computer engineer named Wei Dai has been credited with the formulation of the concept when he “created a post on anonymous credits, which described an anonymous loan scheme with redeemable bonds and lump sum taxes to be collected at maturity” (Hu et al., 2019, p. 2). Szabo is considered the father of smart contracts. He stated that “smart contracts utilize protocols and user interfaces to facilitate all steps of the contracting process. This gives us new ways to formalize and secure digital relationships which are far more functional than their inanimate paper-based ancestors” (Szabo, 1997, para. 10).

He believes smart contracts reduce mental and computational transaction costs, and sees smart contracts as a major force in the merger of law and computer security.

As De Caria observes, a search for the term ‘smart contract’ results in a plethora of definitions (De Caria, 2019). Szabo’s definition is probably the most user friendly – he defines it as “a computerized protocol that executes the terms of a contract” (De Caria, 2019, p. 734). Essentially, a smart contract is “a computer program which verifies and executes its terms upon the occurrence of predetermined events” (Giansparo, 2017, p. 3).

Tan argues that we cannot speak about smart contracts without considering ‘Etherum’, which he considers to be the “mother of all smart contracts” (Tan, 2018, para. 1). He submits that ‘Etherum’ was the project which attracted the public’s attention to the implementation of smart contracts (Tan, 2018). While the application and implementation of smart contracts is not a new phenomenon, the term and its applications have only received exploration in relatively recent times.

The use of public smart contracts (PSC) has been limited. Nevertheless, it is pointed out that large organizations such as Microsoft, IBM and JPMorgan (to name a few) have tapped into “providing consulting services and building private consortium blockchains in a number of industries to build smart contracts on” (Tan, 2018, para. 9). Many parties are investigating the best way to utilize block chain infrastructure to mould the next phase of technology. It is further submitted by Tan that the use of smart contracts will continue to gain momentum, as more parties seek ways in which to make the most of them (Tan, 2018).

While smart contracts may be viewed as an example of the use of blockchain and blockchain technology which offers great opportunities to the field of law; others are more sceptical (Ruhl, 2019; De Caria, 2019). The use of smart contracts in law is anything but straightforward, but this should not deter jurists from investigating the opportunities this instrument offers.

This chapter aims to provide an overview of smart contacts, explaining how they work, the ways they differ from written contracts, their legal status, and the advantages and disadvantages associated with using them. The chapter concludes by identifying the prime challenges facing businesses and the field of law with regard to the increasing use of smart contracts.

Key Terms in this Chapter

Blockchain: An electronic system that securely and reliably stores data on a specific network.

South Africa: Country at southern tip of Africa, one of the most developed countries in Africa which boasts one of the strongest economies in the region.

Contract: An agreement between parties which the obligations; duties; responsibilities and rights of each party.

Smart Contract: A computer programme that automates certain actions based on set codes and parameters and agreements between parties to the agreement.

Formalities: Requirements which must be complied with in order to constitute as valid contract.

Cryptocurrency: A digital, virtual currency which is exchanged and used by means of encryption techniques.

Blockchain Technology: The technology that supports and enables the blockchain to operate effectively.

Regulation: The process of designing and implementing rules, regulations and laws in order to govern and regulate actions, activities, duties.

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