From Web3 to blockchain, NFTs, and cryptocurrency, smart contracts seem to keep popping up.
Similar to traditional contracts, smart contracts contain the terms of an agreement. However, a smart contract’s terms are established and executed as code on a blockchain. They also do not require a “trusted intermediary” (i.e. a bank, government entity, corporation, or individual), which makes securely automating and decentralizing almost any kind of agreement possible.
Smart contracts are essentially self-executing and, as opposed to traditional contracts, are less expensive; more reliable, transparent, and secure; borderless; and are less reliant on lawyers and legal teams.
Smart contracts are “smart” because, when the terms of an agreement are met, they execute and perform their assigned tasks automatically. They can perform the same functions as traditional contracts at much lower costs, and they are just as legally binding as digital and paper contracts.
Smart contracts are also beneficial because decentralized finance apps (dApps or dapps) are not limited to certain hours. And, those who use dApps can participate without centralized custody or any fees from intermediaries.
These contracts consist, in essence, of three components: the signatories, the subject of the agreement or contract, and the specific terms involved. Once the smart contract is part of the blockchain, its terms cannot be changed, as there is no way to do so without immediately alerting the network.
“Smart contracts are designed to faithfully do exactly what they were programmed to do — no matter what. Once they are started, no one can change them. The blockchain makes sure of it,” says Ryan Boder, CMO and core contributor at API3, a first-party Oracle solutions provider that enables Web3 applications to call any web API directly from a smart contract. Smart contracts essentially say, “if this happens, do this; otherwise, do nothing.”
Despite all the upsides, smart contracts do come with some danger:
“Smart contracts are immutable,” said attorney Tal Lifshitz, a Partner and Co-chair of the Cryptocurrency, Digital Asset, and Blockchain Group at Miami-based Kozyak Tropin & Throckmorton. “That means once a contract executes, there are no take-backs. There is no avenue for recourse through external mechanisms, like courts. Smart contracts are coded by humans, and a smart contract is only as good as its code.”
"Poorly written code behind a smart contract can leave it open to be exploited from the outside,” Lifshitz added. “Smart contract hacks have recently resulted in thefts of significant digital currency, for example.”
While these risks are real and serious, they are unlikely to deter many who crave more reliable, more transparent, and less expensive contracts.