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MarTech Landscape: What’s a smart contract?
As a blockchain ecosystem emerges, smart contracts could become a common way of automatically implementing transparent deals.
Suppose you had a contractual agreement that understood its own terms, could track whether the terms were fulfilled and could send the required payment or product when the deal was finalized.
That, essentially, is the idea behind a smart contract, one of the new ways of doing business that blockchain technology is introducing. In this article, part of our MarTech Landscape Series, we look at this new kind of self-enacting agreement.
The idea was first proposed in a 1996 paper by computer scientist and legal scholar Nick Szabo:
A smart contract is a set of promises, specified in digital form, including protocols within which the parties perform on these promises. […]
The basic idea of smart contracts is that many kinds of contractual clauses (such as liens, bonding, delineation of property rights, etc.) can be embedded in the hardware and software we deal with […]. A canonical real-life example, which we might consider to be the primitive ancestor of smart contracts, is the humble vending machine. Within a limited amount of potential loss (the amount in the till should be less than the cost of breaching the mechanism), the machine takes in coins, and via a simple mechanism, which makes a beginner’s level problem in design with finite automata, dispense change and product fairly. Smart contracts go beyond the vending machine in proposing to embed contracts in all sorts of property that is valuable and controlled by digital means.
In a smart contract, the terms of the agreement are expressed in ways that can be readily verified, such as if/then conditional statements, and they are programmed as executable code into the blockchain.
A smart contract, for instance, might contain and enforce this agreement: Your ad will be shown on this website, and you pay the website publisher $10 for every thousand impressions. Once those impressions are reached, as reported by some external and integrated tracking service, then the appropriate amount of funds is released to the website publisher from, say, an escrow account.
The funds may well be in a crytocurrency like ether, and then the crypto could be swapped in some currency exchange for, say, dollars.
Every step in the transaction is recorded and time-stamped to the blockchain, which is a kind of shared electronic ledger that makes recorded info immediately available to every participant. The parties to the contract could be anonymous, even though their transactions are open for all participants to see.
Aside from its automatic implementation of deal terms, immutable recording of transactional steps and built-in transparency, smart contracts offer the ability to process deals without trusted third parties.
In traditional written contracts, of course, courts, administrators or arbitrators might need to oversee a contractual arrangement, so a blockchain — like so much internet tech — helps to remove the middleman.
But there are a few caveats about smart contracts.
First, they’re not “smart” in the sense of artificial intelligence, because no AI is involved. When coded conditions are met, they trigger the payment or product release.
Second, it’s not yet clear what kind of “contracts” they are, if any, although they are a kind of agreement.
Additionally, many legal agreements cannot be rendered as easily verifiable conditions, but often include things like “reasonable” assessments. Perhaps a smart contract could include a trigger from an outside assessor, but then you’re a good distance from automatic implementation.
But, most importantly, it’s not yet clear how secure they are.
Blockchain proponents tout the platform’s security, immutable writing of distributed data and other desirable features, and smart contracts would seem to share some of those characteristics.
But recent jaw-dropping disasters raise questions about how reliable smart contracts are.
Just last week, for instance, Parity Technologies — which provides a wallet service called Parity that functions as a smart contract — revealed that at least $150 million in ether cryptocurrency was frozen.
Apparently, there was a vulnerability in a related library of software, although others are contending there is a built-in flaw in the kind of blockchain (Ethereum) that was used. But this follows another attack in July on Parity that resulted in the theft of about $31 million of ether.
And in the summer of 2016, there was a hack that stole $50 million in cryptocurrency from a Decentralized Autonomous Organization, which is an organization run through smart contracts.
All of which means that, if smart contracts are going to become useful instruments for marketing and commerce, they may need more oversight by smart humans.