Contracts are an immensely important tool of business. In the traditional sense it is an agreement whereby one party makes a promise to perform certain obligations in return for a consideration by the other party. Contracts are a big part and parcel of our lives. Whether it is a contract to buy a house, take a loan, take a place on rent, perform services, all these activities are governed by contracts. Even the simple act of buying any product in a store or ordering anything online from amazon or flipkart is a contract. The seller promises to give his product in exchange for money given by the buyer.
The small contracts like buying goods don’t require any complicated paperwork. However, when one has to take a loan, for example, then there is complicated paperwork to be executed. Further, in such cases, in case there is a default in repayment of the loan, it is a cumbersome process to take action against the borrower to recover the loan amount.
These are some of the several issues that can be done away with by using smart contracts.
But the question that comes to mind is what is a smart contract? A smart contract is a computer program that automatically executes/ enforce predefined terms of a contract which has been made using the Blockchain technology.
The next question that pops up is what is blockchain technology? It is a method of recording and sharing data across a network. So there is a digital database called a ledger which is shared / distributed with a network of computers called nodes. The ledger contains the record of all the data and each node contains a copy of the same data. Consequently, whenever any data is added to the ledger, simultaneously, all the nodes get updated. The distinguishing feature that separates the blockchain system from other kinds of shared databases is that it is not possible for one person to arbitrarily feed any data on the ledger. All the nodes which are in the network must give their consensus for data to be added. This consensus mechanism has been designed to make it extremely difficult to change or amend any data once it has been added to the ledger.
Now once you merge the two together and create a smart contract using blockchain technology then it has huge benefits. These become self executing contracts in which the terms and conditions are embedded into a computer program. It has several benefits:
. Smart contracts can overcome moral hazard problems and strategic defaults; . They can drastically reduce costs of verification and enforcement; . There is a certainty of performance of smart contracts; . Human intervention is not required; . Contracts become trustworthy, transparent and irreversible; . There is speed, accuracy and efficiency.
Some practical examples in which smart contracts may be useful are: . Cases where preference shareholders have not been paid dividends for two consecutive years and they acquire voting rights; . Transmission of shares in case of death of shareholder to the nominee; . The instant transfer of collateral in the event of a loan default; and . The payment of employee compensation if performance goals are achieved.
There is no limit to the use cases for smart contracts. The willingness of a party to enter into a smart contract could represent a precommitment to behave with integrity and ethically and not to behave opportunistically in the future which could also make it an attractive proposition. Blockchain technology is an evolving technology and disruptive in its use. The benefits of adopting this technology are growing multifold. If used with the right intention and spirit, Blockchain technology can transform smart contracts by making transactions transparent, reduce the risk of frauds, effectively manage the interests of the stakeholders. However, the technology is still in a nascent stage and is constantly developing with many benefits still to be discovered. Although, it appears that there are a lot of advantages of adopting the Blockchain technology, it will take some time to gain wide acceptance as the kind of transparency and accountability it brings may not be practical for any and every situation. In any case, the technology is at our doorstep and is being adopted in several companies and it has already begun being a subject of discussion in India as well. Eventually, time will tell us if we are able to embrace all the facets offered by the Blockchain technology and bring smart contracts into the mainstream.
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