What are smart contracts and which benefits do they bring?

smart contracts

Smart contracts are digital agreements that allow businesses and consumers to exchange money, property, shares, or anything of value in a transparent, tamper-proof and conflict-free way.

How do smart contracts work?

Physically, smart contracts aren’t documents but computer protocols that work by following “if/then” instructions written in cryptographic code on a blockchain platform, such as Ethereum. In other words they are a software that is programmed to automatically execute when certain conditions are met.

For example, let’s say you wanted to buy a digital asset such as Bitcoin or NFTs. You could use a smart contract to agree to buy the asset at a certain price, and the smart contract would automatically execute the trade when the conditions are met. This would remove the need for a third party, such as a broker or exchange, to oversee or enforce the contract.

In which situations are they used?

Smart contracts are great not only for trading digital assets, but  in many other situations. Let’s see some examples:

  • Supply chain management: They are useful in tracking the movement of goods and materials through the supply chain, but also for triggering the release of payments when goods are delivered.
  • Insurance: They can automate the claims process in insurance. For example, a smart contract could be used to release payments automatically when certain conditions are met, such as the submission of a medical report.
  • Real estate: They can automate the transfer of ownership when a property is sold.
  • Digital identity: They can be helpful in managing digital identities. For example, to verify the identity of a user before granting access to a service or website.
  • Copyright and licensing: A smart contract could be used to grant or revoke access to a copyrighted work. This would help to ensure that only authorized users are able to access the work and would help to protect the rights of copyright holders.
  • Loyalty programs: Smart contracts can track the points earned by a customer and automatically redeem them for rewards.

What benefits do they bring?

Compared with traditional contracts, smart contracts have several advantages

  1. Transparency and immutability
    Since smart contracts are stored on a blockchain, all parties can see exactly what is happening at every stage.
    Furthermore, once a transaction ends, the blockchain is updated and the transaction can no longer be changed or tampered with.This provides a high degree of security and helps to prevent fraud.
  2. Automation
    Smart contracts automate repetitive tasks that would otherwise need to be completed manually. For example, a smart contract could be used to automatically issue payments on a certain date. This can save time and money by eliminating the need for manual processes or middleman. They also improve efficiency and reduce the risk of human error.
  3. Security
    There are many reasons why smart contracts are safer than traditional contracts, and we have already seen some of them:
    – they are stored on a blockchain and cannot be changed or tampered with;
    – their execution is automatic when the pre-established conditions occur and therefore the outcome is certain, so there is no risk of violating or changing the terms of an agreement without everyone else knowing;
    – they can also be programmed to require multiple signatures from different parties, making them even more secure.
  4. Trust
    Smart contracts provide a clear and enforceable set of rules, and they ensure that assets are exchanged in a conflict-free way. This can be helpful in situations where there is no previous relationship between the parties or where there is a need to establish trust quickly.

Things to consider before using smart contracts

Despite their many advantages, smart contracts also come with some peculiarities that should be considered.

  1. Complexity
    Smart contracts can be very complex, and this complexity can lead to errors. For example, if a smart contract is not programmed correctly, it could result in the loss of funds or assets. In addition, smart contracts are often written in code, which can be difficult to understand for non-programmers.
  2. Inflexibility
    Once a smart contract is created, it is very difficult to change. This inflexibility can be a problem if the contract needs to be updated or amended for any reason.
  3. Lack of regulation
    It means that there is no legal framework in place to protect consumers or businesses if something goes wrong. This could lead to disputes and losses, with no clear way to resolve them.
  4. Security risks
    As smart contracts are stored on a blockchain, they are vulnerable to hacking and fraud. For example, if a hacker gains access to a private key, they could tamper with the smart contract or steal funds. Moreover, if a smart contract is not well-written, it can be easily exploited by someone with malicious intent.

 

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