One of the most talked about topics to come out of the surge in popularity of DeFi is Smart Contracts, but not many people understand what they are and what they can mean for the industry. This article aims to explain what smart contracts are and why Ethereum Smart Contracts matter.

The computer scientist Nick Szabo first coined the term in his paper titled ‘Smart Contracts: Building Blocks for Digital Markets’ published in 1994. Yes, 29 years ago. In 1996, Szabo described smart contracts as “a set of promises, specified in digital form, including protocols within which the parties perform on these promises.” While the technology available to support smart contracts has evolved considerably since then, that’s what smart contracts are and do. Let’s explore what that definition means for us in the real world.

What are Smart Contracts?

Smart contracts refer to self-executing programs designed to automate the processes outlined in an agreement or contract. Once executed, these transactions become traceable and irreversible.

These contracts enable trusted transactions and agreements among diverse, anonymous parties without relying on a central authority, legal system, or external enforcement mechanism.

Although blockchain technology is normally associated with Bitcoin, it has evolved beyond being merely the foundation for a virtual currency.

Why Ethereum Smart Contracts?

As the world’s first crypto, Bitcoin initially supported basic smart contracts, albeit with significant limitations compared to Ethereum. In the case of Bitcoin, each transaction serves as a smart contract, requiring the network’s approval only when specific conditions are met—such as the user providing a digital signature proving ownership of the claimed cryptocurrency, a process possible only with the possession of a Bitcoin private key.

In contrast, Ethereum transcends the restrictive language of Bitcoin, introducing a more versatile language that empowers developers to utilize the blockchain for tasks beyond cryptocurrency transactions. This language is “Turing-complete,” allowing for a broader range of computational instructions. With this lack of constraints, programmers have the flexibility to create almost any smart contract they can conceptualize.

How Does Smart Contract Work on Ethereum?

The process begins with a developer crafting smart contract code, typically in a language like Solidity, and deploying it onto the Ethereum network. This code encapsulates the agreement’s terms, conditions, participants, and outcomes. Once deployed, the smart contract is allocated a unique and immutable address on the blockchain.

When predefined conditions encoded within the smart contract are met, the software executes the corresponding contractual provisions autonomously. An illustrative scenario could involve a smart contract automatically disbursing insurance payouts upon detecting a flight delay exceeding 4 hours. The transparency inherent in all interactions with the contract fosters trust among participants.

Facilitating the deterministic functionality of smart contracts is the Ethereum Virtual Machine (EVM). Running on each computer (node) within the decentralized Ethereum network, the EVM enables seamless peer-to-peer evaluation and execution of smart contracts.

The step-by-step process unfolds as follows:

• A user starts a transaction to execute a function in the smart contract code, such as making a payment or triggering the release of digital assets.
• Miners aggregate transactions into blocks, utilizing an incentive structure known as Gas to prioritize smart contracts with higher fees for execution.
• A miner successfully solves the block and broadcasts it to the network. All nodes simultaneously validate the execution of the smart contract code through the EVM.
• The updated contract data is stored across nodes on the new block. The network achieves consensus on the final output and the most recent state of the smart contract.
• The designated function executes, and all participants can verify and observe the transparent result within the distributed public ledger.

Basic Steps Involved in Building a Smart Contract

• Identify parties and establish agreement terms:

Identify involved parties and define the terms and conditions of the contract. This initial step involves outlining the obligations of each party and the criteria for contract execution.

• Define conditions for contract execution:

Specify the conditions that must be fulfilled for the contract to be executed. These conditions are typically articulated as a set of rules or criteria that must be met to validate the contract.

• Write the smart contract code:

Develop the code for the smart contract. This code outlines the precise steps to be taken when the specified conditions are met, governing the execution of the contract.

• Deploy the contract to a blockchain platform:

Proceed to deploy the smart contract on a blockchain platform. This involves validating the contract’s integrity by uploading the code to the blockchain network.

• Trigger automatic contract execution:

Execute the smart contract automatically when the predetermined conditions are satisfied. The blockchain network activates the contract, carrying out the specified actions.

• Record contract details on the blockchain ledger:

Document the contract’s details on the blockchain network upon execution. This includes information about the contract terms, prerequisites for execution, and the date and time of execution. Once recorded on the blockchain ledger, these details become immutable, ensuring they cannot be altered or removed.

Related Read: How to Buy Ethereum in India

Advantages of Smart Contracts on Ethereum

• Trust and Security:

It enhances trust and security by eliminating the need for trust in a central authority. The transparent and immutable nature of the Ethereum blockchain reduces the risk of fraud, as all parties have verifiable access to the same information.

• Efficiency and Cost Savings:

It brings efficiency gains and cost savings by removing intermediaries from transactions. Smart contracts automate and streamline processes, making transactions faster, more direct, and more cost-effective than traditional agreements involving banks or legal entities.

• Decentralization:

Benefits from Ethereum’s decentralized network include reducing the risk of censorship, manipulation, or single points of failure. Smart contracts operate on a network of nodes, ensuring no single entity has control and enhancing overall reliability.

• Automation:

It introduces automation into contract execution, reducing the need for manual intervention. Once deployed, smart contracts automatically execute predefined actions when conditions are met, accelerating processes and minimizing the risk of human errors.

• Interoperability:

It fosters interoperability with other blockchain platforms, allowing smart contracts on Ethereum to interact seamlessly with those on compatible blockchains. This facilitates a more interconnected and efficient global financial ecosystem.

• Immutable Record Keeping:

It ensures an immutable record of all executed smart contracts on the Ethereum blockchain. This feature is crucial for maintaining accurate historical records, and aiding in smart contract audits, compliance, and dispute resolution.

• Programmable Money:

It enables the creation of programmable money by encoding rules directly into smart contracts. This flexibility allows for automated fund distribution based on predefined criteria, adding efficiency to financial transactions.

• Conditional Payments:

It allows for conditional payments based on predefined criteria. For instance, funds can be released only upon successfully delivering goods or services, reducing the potential for disputes and adding an extra layer of security and trust.

Adopting Ethereum smart contracts presents a paradigm shift in how agreements are executed, providing a secure, efficient, and transparent framework for various applications across industries.

Challenges and Limitations

• Immutability and Security:

The immutability of smart contract code on the blockchain enhances security but poses challenges when errors or issues arise. Once deployed, correcting mistakes becomes complex, and any flaws in the code are difficult to rectify without creating new contracts.

• Scalability Issues:

Ethereum’s popularity has led to scalability issues, making it challenging to handle a huge volume of transactions simultaneously. This results in slower transactions and higher fees, limiting the scalability of the Ethereum network. Although Ethereum 2.0 aims to address these concerns with a new approach, its full implementation is still pending.

• Dependency on Oracles:

Smart contracts often require real-world information, such as stock prices or external data. Oracles act as intermediaries by connecting the blockchain to this external data. However, excessive reliance on oracles introduces risks, as insecure oracles could compromise the integrity of smart contracts. Ensuring the security and reliability of oracles is crucial to maintaining the system’s overall safety.

Industries Benefiting From Ethereum Smart Contracts

• Logistics:

Smart contracts can automate the tracking of items in the supply chain, enhancing efficiency and transparency. This decreases the risk of fraud and ensures timely delivery of goods.

• Real Estate:

In real estate, smart contracts simplify property transactions, eliminating the need for intermediaries like real estate agents. This streamlines the process, saving time, reducing costs, and minimizing the potential for fraud.

• Healthcare:

Ethereum smart contracts can optimize healthcare operations by automating tasks, such as securely storing electronic health records (EHRs) on the blockchain. This enhances patient data privacy, facilitates secure information exchange among healthcare practitioners, and automates payment processes for clinical study participants based on milestone achievements.

• Gaming:

Ethereum smart contracts have transformative potential in the gaming industry. They enable the creation of decentralized, player-driven markets for buying, selling, and exchanging virtual commodities and currencies. These markets are secured by blockchain, providing transparency and security in transactions. Smart contracts can also automate in-game tournaments, including prize distribution and collection of entrance fees. Furthermore, they facilitate the development of decentralized gaming platforms where participants can play games and directly earn rewards.

Ethereum smart contracts offer innovative solutions that enhance efficiency, transparency, and security across diverse industries, paving the way for a more decentralized and automated future.

The Future of Smart Contracts

Contracts powered by smart requirements are undeniably the future, especially for relatively straightforward agreements that can be automatically written and executed upon meeting predefined conditions. For instance, completion funds can be promptly disbursed in residential conveyancing once contracts are signed.

Various platforms supporting smart contracts are poised to bring global businesses significant time and cost savings, transforming their interactions within supply chains and with customers. This is expected to reduce the need for human involvement, allowing individuals and decision-makers to focus on core responsibilities instead of dealing with routine administration and bureaucratic processes that smart contracts can efficiently handle.

Many banks and insurance organizations are already actively incorporating smart contracts into their daily operations. The ongoing integration of smart contracts in real-world scenarios indicates their practical utility and suggests that they will soon become a regular part of our everyday lives and routines. However, despite these advancements, a fully automated landscape governed entirely by smart contracts may still be a considerable distance away if it ever becomes a reality.