Smart contracts, what they are and they are not

Smart contracts, what they are and they are not

Monday, 25 february 2019 | Redacción CEU

The emergence of Blockchain technology has not left the financial world indifferent. Although some of its first applications were cryptocurrencies, Blockchain has not ended there. There is a wide range of proposals and innovative solutions based on this technology. Smart contracts are a good example of that. Although the term has become fashionable, and lately is in the spotlight on the debate about Blockchain, there are still many doubts that have arisen in relation to this concept. Today, at The CEU IAM Business School, we try to shed some light on what exactly "smart contracts" are. Are these contracts really smart? Are they properly treated as contracts? What limits do they find in their operation? What will the future of this technology be like?

 

Although in 1995 the infrastructure which was necessary to start them up did not exist, Nick Szabo already managed to define what smart contracts were at the time:

<<A set of promises, including protocols within which the parties perform on the other promises. The protocols are usually implemented with programs on a computer network, or in other forms of digital electronics, thus these contracts are "smarter" than their paper-based ancestors. No use of artificial intelligence is implied>>

His theory, at that time impossible, would become a reality fourteen years later thanks to the arrival of Blockchain. To understand the operation of these contracts, it is essential to know what the specific characteristics of Blockchain are: decentralization, immutability, its ability to put value at the core,... We recommend that those interested read any of the Blockchain articles which were published on the CEU IAM blog: What are the applications of Blockchain? and Why can  Blockchain transform finances?

A review of smart contracts

Smart contracts have certain special features that make them special. They are capable of executing themselves. Therefore, they do not need the intervention of a third party, and this can be considerably profitable. In addition to being autonomous, they are automatic. This makes them to be faster than any other type of contract, whether they are verbal or written. In a certain way, the terms in the contracts work as orders, which prevents them from being interpreted in a different way. In turn, Blockchain technology gives them a immutable, safe and transparent character.

However, some aspects of this concept should be put into context. It is quite frequent that, in conferences and debates on Blockchain, sayings such as "smart contracts are neither smart nor contracts" comes up. In fact, María Concepción de Monteverde, Blockchain Director at Banco Santander, used a similar sentence in the recent masterclass Blockchain and its application in the financial field at the CEU IAM Business School –this video is available on our Youtube channel–.

This popular expression tries to explain that more than a contract in itself, smart contracts are codes within a distributed database that enable the conditions of a previous contract to be fulfilled. The involved parties have had to reach an agreement before. Another option is that one of the parties is the one that establishes the conditions, and it does not give rise to any type of negotiation. Therefore, when talking about smart contracts, we refer more to the execution of contracts through Blockchain than to something else. Besides, they are not particularly smart as the operation of these "contracts" is based on an automated process.

 

Smart contracts, what they are and they are not

Present and future of smart contracts

They are not smart contracts in a literal sense, but this fact does not diminish their potential. Their possible applications continue to be numerous, for example, in terms of authorship and intellectual property rights. Smart contracts make possible for musicians to receive a payment automatically every time someone downloads their songs. In addition, the artist's rights are registered securely and cannot be modified by anyone. Smart contracts can also be equally beneficial in other areas such as online shopping, insurance, security deposits, digital vote, changes in ownership, inheritances, etc.

Although where they are most widely used is in the environment of fintech companies, the development of this type of technology promises to give a turn of the screw to all types of commercial and professional contracts. There are already platforms such as Ethereum, Counterparty, Hyperledger or Rootsock that offer this type of services. However, it should be noted that smart contracts are still at a very early stage of development. Many challenges still need to be resolved such as the phenomenon of multijurisdiction (what rule to apply if the parties are in different countries), the irreversibility of contracts, their lack of legal backing or issues about the responsibility.

Fujitsu has presented recently what are for the company the eight predictions that will mark the Blockchain in 2019. Among them, we find one about the smart contracts. The company predicts that artificial intelligence will be key to the development of this technology. The Japanese firm believes that the limited capacity of these "contracts" to adapt to changeable circumstances could be overcome with the arrival of AI. This technology could provide additional value to the process and boost a self-adjusting workflow. Artificial intelligence would help to enforce elements of smart contracts automatically despite having certain deficits in principles such as impartiality, efficiency, growth and intention. Different experts also point out that the Internet of Things (IoT) will be other of the great driving forces for smart contracts, together these technologies would open even more doors to innovation.

At The CEU IAM Business School we are aware of the fact that, in order to face the new challenges that the arrival of these technologies bring about, professionals have to be more prepared than ever. That is the reason that has led us to design training projects such as the Advanced Program in Digital Finance and Fintech or the Advanced Programme in Digital Economy, FINTECH and Intelligent Society (Online). We also consider that to develop a career in financial management, banking and investment, it is necessary to study in depth the new financial environment and receive a solid training in this area. Our proposal: an Executive Master’s Degree in Finance.

 

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