Tech news has been abuzz lately with talk about blockchain. Also known as distributed ledger technology (DLT), the power of blockchains to provide fast and ultra-secure data transactions has captured the attention of the world’s largest banks, and the smallest niche startups. Industries from manufacturing to logistics are adopting DLT to store customer data, improve efficiency, and to create transparency and accountability throughout their processes. Riding in on the heels of the expansion of blockchain is a technology that is exciting in its own right, and one that we will cover in this post — the smart contract.
Blockchain Smart Contracts Explained
Blockchain and smart contracts can be loosely compared to Excel spreadsheets and macros. Whereas Excel is a type of ledger that can store text, numbers, images, and math formulas, macros are pieces of VBA code that are stored within Excel spreadsheets and which automate certain tasks. In a similar way, smart contracts are pieces of code that are stored in a blockchain and which automatically take certain actions when certain predefined conditions have been met.
Perhaps an example will help explain the concept a bit better. Take, for example, a bank releasing a property deed to the property owner following the final mortgage payment. If the bank stores the customer’s account data in a blockchain, a smart contract can be written to automatically release the deed to the owner, but only after the mortgage loan has been paid in full, and only if the bank has not received a tax lien notice for the property. In this case, the smart contract executes the agreement made between the bank and the property owner when the mortgage loan was approved, and it completes the transaction without human intervention.
Our example represents an actual, albeit simple, use for smart contracts. In practice, smart contracts are able to autonomously execute agreements of much greater complexity. Let’s look at a few cases to see the true power of self-executing agreements
Smart Contract Advantages
Smart contracts offer numerous advantages to paper contracts, as we shall see now.
Since contracts on a blockchain are executed by a computer program rather than a human, parties can enjoy nearly instantaneous payouts and transfers following the conditions of the contract being met.
Updating paper agreements is laborsome and slow. Even when contracts are stored online, they require human intervention to be updated. By contrast, smart contracts are able to automatically detect when parties to the agreement have taken certain actions and can update the blockchain record in real time.
Accuracy and Security
Smart contracts exist within the blockchain, affording them all the benefits blockchain offers. Among these is greater accuracy and immutability. Unlike a paper contract or one stored as an uploaded document, every change made to a smart contract is date and time stamped, and the identity of persons who authorized the changes is recorded.
There are special security concerns associated with DLT contracts, as we will see shortly.
Lower Execution Risk
Most legal contracts include numbers. Any time a bank officer, legal clerk, or broker updates those numbers, the opportunity for error is introduced. Computers rarely make such errors, making smart contracts relatively immune from some of the risks common to standard contracts.
One of the greatest advantages smart contracts offer is the elimination or reduction of “trust intermediaries,” which can streamline the execution process.
Faster execution, reduced risk, and fewer intermediaries translates into greatly reduced cost, which can be passed on to the customer.
Blockchain Contracts Use Cases
The possible uses for autonomous contacts are nearly as numerous as for blockchain itself. Take a look at this short list we have compiled, showing some applications for self-executing contracts:
- Digital identity
- Investment management
- Property title transfers
- Digital rights management
- Smart cities
- Supply chains
- Clinical trials and research
The following five actual use cases demonstrate the humble beginnings of mainstream adoption.
Australian Securities Exchange
The Australian Stock Exchange (ASX) announced that it is implementing DLT and smart contracts to manage transactions.
Using DLT and smart contract technology, the ASX expects to streamline the clearing and settlement of shareholder equity transactions.
Barclays, Credit Suisse, KBC, SIX, Thomson Reuters, and UBS Banks
Several large banks are collaborating to improve the quality of counterparty reference data in preparation for tighter regulatory requirements. By using Ethereum smart contracts on the Microsoft Azure cloud platform, the team expects to streamline data reconciliation to the benefit of all parties.
Mega bank USB is doing more than teaming up with other banks to embrace distributed ledger technology. Recently, UBS filed a patent to protect the DLT technology it plans to implement as the backbone for user accounts.
The bank indicated that it can incorporate smart contracts into the same blockchain used for accounts, or it can create a separate blockchain to host contracts — an interesting dilemma, and it will be interesting to see which way they proceed.
The US State of Delaware
On August 1, 2017, the state of Delaware made it legal for institutions within the state to use blockchain and smart contracts to manage stock trades and records management.
Smart Contract Limitations
Powerful as they are, all smart contracts have certain limitations that must be understood, if you want to get the most benefit from deploying them. Here are a few for you to think about.
Smart contracts are still a nascent technology. As such, developers face a few hurdles in writing autonomous contract code that they probably will not face once the technology matures. Among these challenges is translating highly complex legal and financial requirements into highly complex computer programming code.
With the number of applications for smart contracts growing daily, from financial to legal to industrial, it is likely that developers will settle into niches as they become more experienced with particular applications. In other words, most smart contract developers now are generalist, but we expect that future smart contract writers will be “financial smart contract developers,” “legal smart contract developers,” “supply chain smart contract developers,” and so on.
Ay computer program is only as good as it’s code. As we just mentioned, smart contract development is still in its infancy. The lack of developers who have “years of experience” in this area of development means mistakes will be made. Those mistakes, hopefully, will not be the result of sloppy code, but will be code flaws nonetheless. Most errors will result not from developers failing to use what they know, but from what they don’t know and can’t know until those mistakes have been made. Such is the case with all new technologies, and blockchain is no exception.
Blockchain testing services and platforms are already emerging. Along with the growth of smart contracts, we can expect to see methodologies and software solutions for testing those as well.
While flawed code presents a number of problems that could harm the reputation of your company, and that of smart contracts in general, security vulnerabilities present a concern on their own.
In July of 2017, hackers exploited a smart contract vulnerability in Ethereum and drained $31 million worth of Ether from the Ethereum network. It was not the first security breach of a smart contract, nor will it be the last. To date, it was just the biggest.
A smart contract cannot execute in response to a party’s action unless it can detect that action. Exposing smart contracts to all relevant data within its blockchain — and to events outside the blockchain — is required if the contract is to execute autonomously.
By using APIs, middleware, and other off-chain data connectivity technologies, developers must create seamless interfaces between blockchains and banks, retail, and other institutions. Again, this is unchartered territory, which is sure to provide a ripe market for developers.
A major issue that must be overcome is the issue of consensus. Since blockchains allow changes to be made only when a consensus of nodes approves, incorporating the consensus process into connectivity solutions will be a challenge, in deed, but not necessarily one that cannot be overcome. In fact, as blockchain technology matures, it is becoming increasingly apparent that the consensus model might not lend itself well to every application of blockchain, or to every feature we might want to incorporate into it.
Blockchain Smart Contracts and Development Solutions
According to analysts, investment banks could save $12 billion annually by implementing blockchain smart contracts. The ability of the technology to save money will translate directly into earning potential.
The growth possibilities of smart contracts is almost beyond comprehension. Suffice it to say, nearly every type of legal and financial contract presents an opportunity for disruption. Add to that the potential within manufacturing, IoT, connected car, and media rights management and the field shows itself wide open and expanding by the minute.
The appeal of self-executing agreements make the technology of interest not only to developers, but also to investors, tech startups, fintechs, and major corporations of all types. Creating solutions for this diverse market will prove to be a lucrative endeavor for those who choose to lead this revolution rather than experiencing it as spectators.
How Ignite Can Help
Blockchain development is a booming business, and self-executing smart contracts will help fuel market growth. Even so, market success in this emerging technology will not come to the unprepared. Translating contracts into autonomous entities that run on the blockchain will require solid expertise in developing cloud-based solutions, centralized database technology, mobile app development, cyber security, and a world-class software development team.
We are technology partners to some of the biggest companies in the world, and we would like to partner with you to make your smart contract initiatives a reality. If smart contracts are part of your plans for 2018, why not contact us today for a no-cost consultation?