Smart Contracts – The Basics


Whenever you buy or sell a cryptocurrency, a record of the transaction is inscribed upon the blockchain, a decentralized, indelible ledger shared across millions of computers in the world. The bits of code that allow these transactions to take place are known as ‘smart contracts’, and while cryptocurrency and the blockchain are by now widely known terms, many are likely still scratching their heads over what exactly a smart contract is.

A Streamlined Approach

In traditional, pre-blockchain terms, if you want to, say, buy a record with a personal check, then you are entering into an agreement with a seller (the record store) and an intermediary (your bank). If you breach this agreement by bouncing the check, your bank will penalize you for the funds you do not have. The record store is either hung out to dry, or, if you bought an extremely valuable record, forced to take you to court to recoup their losses.

The smart contract simplifies this transaction dramatically. By coding legal terms into executable code on the blockchain, the smart contract contains various conditions that, if met, will trigger the contract, and if not, will void it or leave it dormant. If you enter into an agreement with a merchant, the product will only be released to you if your funds (in the form of cryptocurrency) are deposited. No bounced check, no nasty bank fees (indeed, no bank at all!), no fraud, and no legal peril. Because the payment is irreversible, and the terms of the contract unchangeable, the transaction is a zero sum game – no one’s left holding the bag.

Real World Application

While the above example is a theoretical one, many are putting smart contracts to use, finding their speed, efficiency, low cost, and resistance to fraud an intoxicating mixture. OpenBazaar, a peer to peer eCommerce site, currently uses the technology to allow users to set up shop and sell anything they want without a fee, in effect, doing Amazon without the ‘Amazon’ part. Because smart contracts are also perfectly suited to proving authenticity, the art world is dipping its toes into the water. So far, transactions have mainly been playful proofs of concept like the collectible character portraits on CryptoPunks, but it’s conceivable, nay, very likely, that the next time a masterpiece hits the market, it will be sold via smart contract on the blockchain to ensure the new owner has possession of the genuine article. And because smart contracts can be ‘chained’ together, with the newest contract relying on the validity of the ones previous in order to be valid itself, they are already being used for recording data in step-by-step procedures like clinical trials where much depends on a reliable result with a clear paper trail behind it.

Cryptocurrency is only the first stirring of this new technology’s potential, and when you step back and think about it, it’s hard to imagine an industry that won’t be transformed by the rise of the smart contract.


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