Being a crypto investor can be challenging, especially when you have little to no idea of the different terms used in the industry. So if you’re a beginner often exploring the crypto vocabulary, you might have noticed the word ‘smart contract.’
The term ‘smart’ and ‘contract’ is more than any other traditional agreement you might know of. So to help you better, let’s look at the different aspects of a smart contract and how it influences operations in the crypto industry.
But, What Is A Smart Contract?
Enterprises, irrespective of their size, are supported by contracts in one form or the other. Unfortunately, since most of these contracts are developed without expertise, they are prone to compromise and can be a source of legal conflict.
Enter ‘smart contracts,’ or automated agreements made between the recipient and contract creator. This agreement is encoded in code and baked into the Blockchain, making it irreversible and irrevocable.
Smart contracts are typically used to automate the implementation of an agreement so that all parties are immediately certain of the outcome without the need for any intermediaries. Interestingly, they can also automate a workflow that only begins when specific conditions are met.
Similarly, an ‘executed contract’ has been signed by two or more parties, creating a legal relationship between them. Once the written contract is duly executed, each party agrees to uphold the legal obligations set out therein.
So now that you have an idea of the basics around smart contracts let’s delve into the other aspects of these automated agreements in the following sections.
How Do Smart Contracts Work?
Smart contracts work on a relatively straightforward mechanism. For example, consider digital “if-then” declarations between two (or more) parties as smart contracts. Once the predefined circumstances have been verified to be satisfied, a computer network will perform the actions.
These can entail paying money to the right people, registering a car, sending notices, or writing a ticket. When the transaction is finished, the Blockchain is updated. As a result, the transaction cannot be modified. Additionally, only parties to whom permission has been granted can view the outcome.
For instance, let’s assume a market requests 100 ears of corn from a farmer. The latter will deliver, and the former will lock money into a smart contract that can be authorized later. The money will be made available immediately after the farmer fulfills their duty (i.e., after fulfilling a legal contract). If the farmer misses the deadline, the agreement is nullified, and the money is returned to the client.
The use mentioned above case could be more extensive. Aside from additional advantages, smart contracts may be created to function for the general public, eliminating regulations and retail systems. Additionally, smart contracts may eliminate disputes needing to be resolved in court, saving parties time and money.
The concept of a smart contract may be further broken down into a few parts. First, a smart contract requires a contract between two or more parties. Once constructed, the parties can decide under what circumstances the smart contract will be successful. The choice would be encoded and kept in the Blockchain network’s smart contract, which would then be written with the decision.
The transaction is usually recorded on the Blockchain after the contract is finished. The new “state” of the network will then be updated as a result of this transaction by all nodes updating their copies of the Blockchain.
Perks Of Using Smart Contracts In Blockchain
Smart contracts are a great means to add a reliable layer of security to everyday contracts. Interestingly, these contracts also have several advantages over traditional Blockchain.
Let’s check out some of the perks of using these contracts in the Blockchain network:
- Recording Accuracy: The explicit recording of all terms and conditions is one of the key prerequisites for a smart contract. This is necessary since omitting it might lead to transaction issues. Automated contracts avoid the hazards of manually filling out a ton of paperwork as a consequence. Additionally, since these contracts are traceable, they can generate reports in real-time.
- Transparency Of The Platform: All parties who may be affected by these contracts have full visibility of and access to their terms and conditions. Once the contract is in place, it is impossible to challenge it. This makes the transaction entirely transparent for all parties involved.
- Access To Better Communication: The open communication format allows users to make the most of their smart contacts. Everything is explicit since the contract must be accurately detailed. No opportunity for misunderstanding or misinterpretation is allowed. Therefore, smart contracts can significantly reduce the efficiency lost due to communication breakdowns.
- Efficiency Of Operations: Efficiency is another factor that adds to the unique approach of smart contracts. Interestingly, their effectiveness comes from the time they take to write precisely. This way, more value-generating transactions are executed per unit of time due to higher efficiency. Additionally, it is another added advantage since every transaction can be traced.
- Channel Of Trust: Absolute confidence in the execution of the generated smart contracts is another added advantage of using them. These contracts leave no chance of prejudice, manipulation, or inaccuracy.
Besides, thanks to their security, openness, and independence, these platforms are safe from any forgery. Once you initiate a contract, the network automatically carries it out.
When Do Smart Contracts Work Best?
These contracts are more suited to some businesses than others due to their self-executing nature. However, adopting this technology can help sectors including healthcare, banking, insurance, and real estate.
A system of unambiguous guidelines, formulas, and quantitative involvement conditions support these sectors. Besides, automated contracts are less suited to the hotel, beverage, and food businesses, because service levels are qualitative.
Smart Contracts Have Limitations Too!
Although the idea behind smart contracts is a good one, they are still flawed. One thing to remember is that blockchain networks and smart contracts are manually programmed.
There is always a chance for human mistakes, and that error could result in exploits. This is precisely what occurred when the decentralized autonomous organization (DAO) of Ethereum was attacked in 2016. The DAO’s fundraising smart contract included a flaw that hackers took advantage of to steal money from the project.
Not to mention the haziness of the regulations surrounding these independent agreements. On paper, a safe and efficient money transfer procedure sounds excellent, but taxes and other government interventions still need to be considered. All the best!
