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While that latest financial buzzword, blockchain technology, has not yet achieved a major breakthrough, it has celebrated a number of preliminary successes. What’s more, it is being used as a platform for developing some intriguing by-products. One of these blockchain-based concepts is the “smart contract”.
A smart contract is an assemblage of computer code running on a blockchain. The code contains fixed rules agreed by the two parties involved. The underlying principle derives from classical contractual conventions. For example: Someone selling a used car offers the vehicle for sale in very good condition and wants EUR 9,000 for it. The seller expects to be paid, while the buyer expects a well-maintained car – those are the “fixed” rules.
With smart contracts, entering into a contract becomes an automated, decentralised process. This means that sellers don’t have to worry about making appointments with prospective buyers or processing the actual sale; they don’t even have to meet up with the buyer to hand over the car and receive the payment. Smart contracts are self-executing: They check and verify the requisite terms and conditions, and then take care of the actual execution.
They support any kind of value transfer, effortlessly, with no haggling and zero conflicts. They are irrevocable, do not need middlemen, and every step of the process is transparent.
Shermin Voshmgir, business information specialist, blockchain expert and Director of the Cryptoeconomics Research Lab at the Vienna University of Economics, defines smart contracts as follows: “A smart contract is a computer code that contains a predefined set of rules. If and when these predefined rules are met, the agreement is automatically enforced.”
By this, he means that each smart contract is linked to a specific IF-THEN function, making life much easier for users. To stay with our used-car scenario: The seller draws up a smart contract and offers the vehicle for sale. He specifies a purchase price of EUR 9,000 as a condition of sale. So IF a prospective buyer comes across the smart contract and completes it by paying the required sum, THEN s/he gets the car. The contract is signed digitally.
The vehicle might, for example, be stored temporarily in an automated garage until the sale has been completed. Following the successful purchase, the buyer is given a unique code which s/he can use to open the garage and retrieve the car.
All this adds up to minimal stress for both parties, an enormously flexible schedule, and no wastepaper. Smart contracts work in real time, within a matter of minutes, whereas you generally need several days to conclude a conventional contract. Any risk of fraud is minimised, and the transaction costs are close to zero. What’s more, buyer and seller can even remain anonymous if they prefer.
At the time of writing, smart contracts are something to expect in the near future – they haven’t made it into the real world just yet. But technically, they are already feasible, so the trend could soon take off.
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