Smart Contracts Overview

Smart Contracts: A Summary

• Definition: A smart contract is a computerized transaction protocol that automatically executes the terms of a contract.
• Objectives: Design smart contracts to satisfy contractual conditions (payment, liens, confidentiality, enforcement), minimize exceptions (both malicious and accidental), and minimize reliance on trusted intermediaries. Economic goals include reducing fraud, arbitration/enforcement costs, and transaction costs.
• Early Examples: Existing technologies like POS terminals, EDI, and agoric bandwidth allocation are considered rudimentary smart contracts. Digital cash protocols are prime examples, enabling online payments with desirable characteristics of paper cash (unforgeability, confidentiality, divisibility).
• Beyond Digital Cash: Digital cash protocols can facilitate various electronic bearer securities. Full customer-vendor transactions require additional protocols ensuring product delivery contingent on payment (and vice versa). Current systems use a variety of techniques, such as certified mail, face-to-face exchange, credit history, and collection agencies.
• Underlying Technologies: Smart contracts utilize advanced cryptographic and computer science components, including Byzantine agreement, encryption, digital signatures, blind signatures, cut-and-choose, bit commitment, multi-party secure computations, secret sharing, oblivious transfer, etc. (Most are not widely applied in contractual arrangements yet).
• Impact on Contract Law & Economics: Little explored, but significant potential exists for reducing transaction costs, creating novel businesses and social institutions.
• Electronic Data Interchange (EDI): A precursor to smart contracts, EDI involves electronic exchange of business documents (invoices, receipts) sometimes with encryption and digital signatures, lacking the semantic communication crucial to smart contracts.
• Hidden Actions (Smart Fine Print): Smart contracts can incorporate "smart fine print" - actions concealed from parties. (e.g., grocery store POS machines often link purchases to customer data without explicit disclosure).
• Visual Metaphors: Clear visual metaphors for contract elements (like using envelopes and seals for encryption and signatures) are needed to manage contract complexity without hiding relevant information.
• Synthetic Assets: Combining securities (e.g., bonds) and derivatives (options, futures) into new tradable securities with low transaction costs due to computerized analysis of complex payment terms.
• Arbitrage: Synthetic assets enable arbitrage of different term structures desired by various customers, building custom contracts mimicking others while minimizing liabilities (e.g., mimicking German stocks while avoiding foreign capital gains taxes). Voting rights are typically not transferred to synthetics.
• Smart Property: Embedding smart contracts within physical objects. Example: Smart contracts in a car would automatically grant access based on ownership, preventing theft or triggering liens if loan payments are missed. Automation of lien removal is also essential. Real-world implementation involves addressing exceptions like a car being driven during lien enforcement.
• Cross-Disciplinary Nature: Smart contract design draws upon various fields (economics, cryptography) with limited cross-communication/awareness of complementary technologies and business applications.