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What Is A Smart Contract In Blockchain?

By June 30, 20235 minute read

Trust is one of the main issues faced by businesses today. We are gradually losing faith in major businesses and even individual people. With the absence of transparency and the trust factor, we are usually told to approach fear cautiously. We are far more careful, and this compromises the flexibility needed for modern companies.

We rely on third-party mediators to address this issue. However, that also necessitates a certain amount of trust. What happens if the intermediary misuses the funds or files for bankruptcy?

With its ability to create smart contracts, blockchain can offer the best answer in the Web3 space. Let us see what it is and how it works.

What are smart contracts?

Smart contracts are blockchain-based computer programs that run only when specific criteria are met. They are typically used to execute contracts without the need for a third party, letting all parties know exactly what will happen without having to wait around for a mediator. They might also automate a process by ensuring that one activity always follows another.

One of the most potentially beneficial uses of blockchain technology is smart contracts, which can make transferring everything from Bitcoin and fiat money to internationally shipped goods easier. Smart contracts are computer-coded agreements between two parties or self-executing programs for business automation. Since they run on a decentralized network like blockchain, they are kept in a public database and cannot be changed.

The blockchain processes smart contract transactions, enabling them to be transferred automatically and without a middleman. This shows that nobody can be trusted.

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Since no third party is involved and transactions only take place when the terms of the agreement are followed, there are no trust issues.

When was the smart contract invented?

The term “smart contract” was initially coined by the computer scientist Nick Szabo in his paper titled ‘Smart Contracts: Building Blocks for Digital Markets’ published in 1994. Yes, it was 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.”

How to work with smart contracts?

A smart contract operates as a program that encodes business logic and functions within a specialized virtual machine integrated into a blockchain or distributed ledger system.

  • Smart contracts are written using various programming languages such as Solidity, Web Assembly, and Michelson. In the case of the Ethereum network, each smart contract’s code is stored on the blockchain, enabling interested parties to examine the contract’s code and present state to verify its functionality.
  • Every computer participating in the network, also known as a “node,” maintains a copy of all existing smart contracts, along with their current state, in addition to the blockchain and transaction data.
  • When a user sends funds to a smart contract, the code of the contract is executed by all nodes in the network to achieve consensus on the outcome and the resulting value flow. This decentralized execution enables smart contracts to operate securely without the need for a central authority, even when users engage in complex financial transactions with unknown counterparts.
  • To execute a smart contract on the Ethereum network, it typically requires payment of a fee known as “gas,” which is essential for maintaining the functionality of the blockchain.
  • Once deployed on a blockchain, smart contracts are generally immutable and cannot be altered, even by their creator, with some exceptions. This characteristic ensures that they cannot be censored or shut down easily.

Advantages of smart contracts

  • Reliable recordkeeping: All contract transactions are securely stored in chronological order on the blockchain, providing a comprehensive audit trail. While maintaining full privacy through cryptographic security measures, the parties involved can access this information.
  • Autonomy: Smart contracts enable direct interactions between parties, eliminating the need for intermediaries. This allows for transparent and direct relationships with customers, fostering efficiency and reducing reliance on third-party involvement.
  • Fraud reduction: Smart contracts stored on the blockchain make it extremely challenging to tamper with or manipulate transaction records. The computational intensity required for modifying the blockchain acts as a deterrent to fraudulent activities. Additionally, any attempt to violate the terms of a smart contract is promptly detected by the network nodes, flagged as invalid, and not stored on the blockchain.
  • Enhanced trust: Business agreements executed through smart contracts are automatically enforced and executed as programmed. These agreements are immutable, meaning they cannot be altered or broken. This characteristic instills a high level of trust among the involved parties, as the terms of the contract are upheld without any possibility of denial or manipulation.
  • Cost-efficiency: Using smart contracts eliminates the need for intermediaries such as brokers, lawyers, notaries, and witnesses. This reduction in intermediaries leads to significant cost savings. Additionally, the elimination of paperwork associated with traditional contracts not only saves money but also promotes environmental sustainability through reduced paper usage.

Disadvantages of smart contracts

  • No regulations: It is challenging to regulate blockchain technology and associated fields like smart contracts, mining, and cryptos due to the absence of international regulations.
  • Implementation challenges: As they are still an emerging concept and there is ongoing research to fully understand the smart contract and its implications, smart contracts are also challenging to implement.
  • Immutable: They are absolutely immutable. Every time a change needs to be made to the contract, a new contract has to be created and added to the blockchain.
  • Alignment: Regardless of whether the smart contracts align with the intentions and understandings of all the parties, they can speed up the execution of processes involving many parties.

Real-life application of smart contracts

  • Real Estate: By utilizing smart contracts, the involvement of intermediaries in real estate transactions can be minimized, resulting in a fair distribution of funds among the parties directly involved. For example, a smart contract can be used to transfer ownership of an apartment once a specific amount of resources has been transferred to the seller’s account or wallet.
  • Vehicle ownership: Smart contracts can be implemented on a blockchain to maintain vehicle maintenance and ownership records. For example, a smart contract can enforce regular vehicle maintenance every six months, and failure to comply could lead to the suspension of a driving license.
  • Music Industry: The music industry can leverage blockchain technology to record ownership of music. A smart contract embedded in the blockchain can ensure that royalties are automatically credited to the owner’s account whenever the song is used for commercial purposes. Additionally, smart contracts can facilitate the resolution of ownership disputes.
  • Government elections: By logging votes on a blockchain, the confidentiality and integrity of the voting process can be significantly enhanced. Decrypting the voter address and tampering with the votes becomes exceedingly difficult, increasing confidence in the electoral system and deterring fraudulent practices.
  • Healthcare: Smart contracts can automate healthcare payment processes, minimizing the risk of fraud. Each treatment can be recorded on the blockchain, and the smart contract can calculate the total sum of all transactions. As a result, patients may not be discharged from the hospital until the bill has been paid, which can be encoded within the smart contract, ensuring transparency and accountability.

Conclusion

Smart contracts are pieces of blockchain code that allow an agreement or contract to be carried out from outside of the chain. It eliminates the necessity for both parties to have trust in one another by automating the tasks that would otherwise be carried out by the parties to the agreement.

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Disclaimer: Cryptocurrency is not a legal tender and is currently unregulated. Kindly ensure that you undertake sufficient risk assessment when trading cryptocurrencies as they are often subject to high price volatility. The information provided in this section doesn't represent any investment advice or WazirX's official position. WazirX reserves the right in its sole discretion to amend or change this blog post at any time and for any reasons without prior notice.
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