The Legal Status of Smart Contracts

The information provided here does not constitute legal advice and does not replace the advice of a lawyer on any particular matter. For legal advice, you should consult a lawyer about your particular situation. There are other barriers as well. “To implement smart contracts, you need to have a basic understanding of Web 3.0 and its philosophy,” he says. “And Web 3.0 brings challenges to the user experience. It is full of clunky designs that frustrate users. But ultimately, the first step is to understand when to use a smart contract. And how you implement it in a way that makes sense for your business is the second step. New institutions and new ways of formalizing their relationships are now made possible by the digital revolution. I call these new contracts “smart” because they are much more functional than their paper-based lifeless ancestors.

No use of artificial intelligence is implicit. A smart contract is a set of promises specified in digital form, including the protocols in which the parties keep those promises. [3] The legal statement reminds us that there are three key requirements for forming a contract – and states that there is no reason why our normal common law rules should not also apply to smart contracts. It is explained that whether a smart contract can create binding legal obligations depends on the ability of the smart contract parties to: An issue often addressed in the literature is whether smart contracts have the same legal validity as traditional contracts. While this question deserved a definitive and authoritative answer, it instead sparked endless debate among academics and practitioners. Some academics have put all nerves to the test to overestimate the power and authority of smart contracts. For example, Savelyev expressed the radical view that “smart contracts don`t need a legal system to exist: they can work without a comprehensive legal framework. De facto, according to Savelyev, they represent a technological alternative to the entire legal system. 7 In contrast, practitioners have expressed concerns about the legal status of smart contracts because, unlike traditional contracts, the contract is not reinforced by natural language, but by data and computer rules.8 While this concern is justified, this paper suggests that the prevailing view should be that smart contracts have the same legal validity as traditional contracts. Indeed, “the data-driven label simply suggests that the parties have decided that a subset of key terms or conditions would benefit from being represented as data that can be processed by computer.” 9 This argument is reasonable because “anything from a verbal agreement to an email conversation can become a contract in court if the basic elements of a contract can be found.” 10 The key question the authors ask is whether the law treats cryptoassets as property.

Why is it important to know if cryptoassets can be owned? Because, as we have reported, the UKJT has found that “traditional investors must always be confident that their legal rights can be protected when trading crypto-assets”. How do smart contracts work? “The smart contract is executed when all the criteria are met,” says Dzhidzhiyeshvili. “For example, the purchase of an NFt could trigger the payment of royalties to the creator of the NFt. Or the confirmed delivery of the goods could free up funds for the merchant. “Many of the use cases offered by smart contracts assume that the smart contract receives information or resource parameters that are not in the blockchain itself – so-called off-chain resources. For example, suppose a smart crop insurance policy is programmed to transfer value to an insured if the temperature drops below 32 degrees at any time. The smart contract must receive this temperature data from an agreed source. There are two problems with this. First, smart contracts are not capable of extracting data from off-chain resources.

On the contrary, this information must be “pushed” towards the smart contract. Second, if the data in question is in constant flux and the code is replicated across multiple nodes in the network, different nodes may receive different information, even if they are only a few seconds apart. In our example, node-1 can get information that the temperature is 31.9 degrees, while node-2 can get information that the temperature is actually 32 degrees. Since consensus between nodes is required for a transaction to be validated, such fluctuations can result in the condition being considered “not met”. If these conditions are met, the smart contract is executed and the agreement is executed. Vlad Dzhidzhiyeshvili, CEO of Ventive, a digital transformation agency, describes the concept in a few words: “In short, the smart contract is a script that runs on the blockchain, pre-programmed by a developer, with a very specific purpose.” Vending machines are cited as the oldest technology equivalent to the implementation of smart contracts. [3] The 2014 Ethereum cryptocurrency whitepaper[6] describes the Bitcoin protocol as a weak version of the smart contract concept as defined by computer scientist, lawyer, and cryptographer Nick Szabo. Since Ethereum, various cryptocurrencies support scripting languages that enable more advanced smart contracts between untrusted parties. [7] Smart contracts need to be distinguished from smart legal contracts.

The latter refers to a traditional legally binding natural language agreement that expressed and implemented certain terms in machine-readable code. [8] [9] [10] In the case of code-only smart contracts, the code executed – and the result it produces – is the only objective evidence of the terms agreed upon by the parties. In these cases, the exchange of emails between the parties about the functions that the smart contract “should” perform, or oral discussions to that effect, would likely result in the last lines of code as a decisive manifestation of the parties` intent. This reasoning shows that “blockchain technology makes the execution of smart contracts truly unstoppable, which means that in the absence of built-in circuit breakers, any human discretion is excluded from the execution and execution of contractual obligations”. 42 Nevertheless, it is legitimate to ask whether this orientation is desirable: for example, should legal interpretations be outsourced instead of relying on competent judges? Blockchain has proven to be a critical intermediary for the growing reliance on smart contracts, largely due to the decentralized benefits it offers. Still, it`s an open secret among individuals in the industry that blockchain isn`t as independent as it sounds. In fact, data shows that five large companies control most of the mining process through their mining pools and generate billions in revenue.43 A network cannot be truly decentralized if most of the process is done by a handful of companies. The centralization of the mining process and control of the blockchain network by these companies can discourage counterparties from opting for smart contracts. As a result, it also destabilizes the balance between the efficiency gains of smart outsourcing and their inability to act.

Even though smart contracts eliminate external interference, it can no longer be said that they really don`t have the ability to act by placing the blockchain network in the hands of large companies. On the contrary, they are victims of the control of these companies. This inevitably hinders the displacement of functionality from traditional contracts. While an understanding of the current legal framework is important for assessing the applicability of smart contracts today, those who use smart contracts in the future may not have to rely on laws that predate the development of blockchain technology. Arizona and Nevada have already amended their respective versions of UETA to explicitly include blockchains and smart contracts. [14] The fact that these states have decisively adopted different definitions of these critical terms suggests that as more states follow their lead, the pressure may increase to adopt uniform definitions to reflect developments in blockchain and smart contracts. The legal statement concludes that a smart contract is capable of meeting the requirements of a legal contract under English law. It states that, in principle, smart contracts are no different from more traditional contracts. [1] The Law Commission, Smart legal contracts: Advice to Government – Glossary The term “smart contract” was first introduced about 20 years ago by computer scientist and cryptographer Nick Szabo when he was a graduate student at the University of Washington. According to Szabo: In addition, it could be argued that even for transactions that smart contracts should have performed flawlessly (such as financial instruments), the results were disappointing. In 2016, Barclays tested a way to trade derivatives using smart contracts and blockchain technology, but despite these efforts, this has not been successfully implemented89; More importantly, if such a method had been implemented, what would have been the outcome if Barclays pulled out of the transaction? Lord Hodge argued that if financial institutions were to withdraw from such transactions, it would have systemic effects on the commercial world.90 His Lordship therefore insisted that “if there is to be a contract designed or adapted by machines, there must be a significant development in our contract law that requires careful and imaginative consideration.” 91 However, even if such contract law is adapted accordingly, the technology underlying smart contracts remains underdeveloped.

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