28 February, 2022
Smart contracts are said to be the next revolution of contracts. Although a smart contract sounds like a legal instrument, a smart contract is actually a computer program that performs a task when triggered by the occurrence of a predetermined event. Smart contracts live on blockchain, which processes the terms of the smart contract, thereby enabling the smart contract to automatically execute the coded task when the triggering event occurs.
In order to trigger the automatic performance of a function, the smart contract uses 'oracles' to receive information from the outside world. This can be automatically fed into a smart contract to determine whether or not a contract obligation has been triggered or breached.
The key benefit of a smart contract is the efficiency of it. Given the automation, smart contracts should be able to reduce human error, reduce the amount of time required to manage a contract and, importantly, it will increase the speed and accuracy of contract performance by the parties. It could be used within the supply chain for releasing payment, recording ledger entries and flagging a need for manual intervention. For example, a manufacturer and a supplier, could set up digital wallets and a smart contract in order for the manufacturer to pay the supplier for the purchase of goods. After the manufacturer inspects and accepts the goods, the smart contract would automatically move cryptocurrency from the manufacturer's digital wallet to the supplier's digital wallet to effect payment.
Another key benefit of a smart contract is that if a smart contract is properly coded it is simply unable to refuse to act or fail to perform as long as the pre-programmed contractual conditions for the action or performance at met. This will be extremely useful for suppliers and manufacturers around the world.
There are a number of issues with smart contracts and some of them are as follows:
The Law Commission published its advice to the Government on smart contracts in November, which provided an overview of smart contracts and the key issues. This report concluded firmly that our current legal framework is able to flex with the proliferation of smart contracts and, as such, it has discouraged the creation of a new legal and regulatory regime. Instead, it preferred the use of the current common law system to develop the law in this area as and when needed which seems reasonable.
Whilst smart contracts could increase efficiency in the supply chain, real risks exist that the coder could set the smart contract up improperly or that the smart contract fails to account for a change in circumstance. Businesses seeking to employ smart contracts will need to weigh the benefits and the drawbacks carefully and allocate the risks between the parties in the smart contract accordingly.
Although it is full steam ahead towards automation under Industry 4.0 and there is no doubt that eventually smart contracts are going to be the new way of creating contracts, we still believe it is early days for smart contracts. Businesses should start considering how smart contracts will work for them in the future.
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