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Benefits of Smart contracts

Exploration of benefits provided by smart contracts with DQ about other potential benefits
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(gentle bright music) <v ->Welcome, everyone.</v> In this video, we’re going to talk about smart contracts. So Aaron, you’re a lawyer and you also teach a course here at our RMIT University on the technologies of law. So I’m wondering if you can talk us through what smart contracts are from a legal perspective? So I understand that they’re not necessarily smart, they’re not necessarily contracts, but yet they’re smart contracts. What’s going on here? <v ->Hi, Jason, great to be with you.</v> And look, some great questions. So let’s unpack those. We’ve been recording contracts for as long as sort of human history has existed, we make agreements with people.
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And so, the nature of a contract in a sort of legal sense is a legally binding agreement between two or more parties. And the common law has developed sort of a series of rules about how we can assess whether something is a legally enforceable agreement versus, perhaps, a non legally enforceable agreement that we might have. And so, a smart contract may have the characteristics of a legal contract, or it might not. And I’ll give you one example. So for a legally enforceable agreement, we need to have two parties that are coming to an agreement about a particular thing. You can use smart contracts within one organization.
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So if I use a smart contract to send sort of funds from an organization’s headquarters in Melbourne to another office overseas somewhere, then that might be using smart contract technology, but we’ve only got one party. So it’s not gonna be a legally sort of enforceable deal in the same way as another contract might. The innovation of the smart contract is really codifying the law. It’s codifying those terms and putting them into a system that can be automatically executing when particular conditions are validated. So the usual way that smart contracts operate is, if Y happens, then X happens. And I guess, the prototype going back a few decades ago,
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people were talking about a vending machine as the first kind of type of smart contract, whereby you put money into the machine and the conditions are that, so long as there is sufficient funds there, and so long as that there’s sufficient products there, then the vending machine will automatically execute that trade that is it will take the customer’s money and it will deliver them the products. That’s kind of the sort of thing that a smart contract is today, whereby it’s written into code, it’s automatically executing, and those are the key things. <v ->Okay, got it. So that’s smart contracts.</v> But what is smart contracts actually doing in finance? Like, where are finance contracts actually made smart?
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<v ->Yeah.</v> So there’s a variety of different ways that we might interact with the smart contract in the finance sense. So that could be as simple as moving say,
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funds across borders, it could be minting a token. It could be swapping one token for another token. It could be something that is more complex than that, such as a finance import into a supply chain story, where as part of that supply chain, you’ve got perhaps insurance or lending, or customs and brokerage and other sorts of things that are at play there. It could be a contract for the services, where you’ve got a split contract and that revenue will go in different ways.
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That’s sort of how I see those different applications functioning there. <v ->Okay. So that’s really important.</v> So smart contracts in finance are basically the definition of defy in the sense that these smart contracts enable buyers and sellers to interact directly with the protocol. And that’s what makes it decentralized. That’s a really important way of understanding it. So what are the benefits that we see here? I mean, is it faster? Is it cheaper? Is it more secure? What are the benefits of these smart contracts in finance? <v ->Yeah, look, it could be all of those things.</v>
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Try and think of this as around transaction costs. So one of the big transaction costs is around the formation of a contract. Now, those costs are still gonna be there in the sense that someone needs to develop these agreements. Someone needs to develop the underlying code. Someone needs to develop the underlying protocols that it’s gonna operate on. So that’s a complex task and those costs are gonna be there, but we’re gonna see template smart contracts in the same way that we see template traditional contracts. If you go to any law firm right around the world, and you want to get some sort of standard commercial contract, they’re not gonna write one from scratch.
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The firm is going to take something off the shelf and plug in different names and numbers and so on. And there might be a little bit of modification, but not a lot. And I think we’re going to see the same sort of thing happen in a smart contracting environment, where people will have developed these things and we can just plug and play. So those costs are still gonna be there, but they might be shifted down a bit. Where does the real benefit of smart contracts lies is in the automation component, because that drives down the enforcement costs of a contract.
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If you’re forming an agreement with someone and for whatever reason one of the parties doesn’t uphold their end of the deal, you have to enforce that through say, the court system or another method of dispute resolution. With smart contracts, by the very nature of being automatically executing, you don’t need to monitor whether the contract has been performed or not. You can see quite clearly whether it’s executed or not. You then don’t have to follow up in the case of a breach because it doesn’t allow for that. So that’s a huge saving, you know on that transaction cost vector.
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In terms of security, well, those questions will depend on the particular technologies that have been deployed, but certainly, they can be more secure than written kind of pen-and-paper that are sitting in someone’s drawer, or that are being stored in a Cloud storage, or something like that. So, yeah. I think that’s sort of where the benefits lie. <v ->So These are all fantastic benefits,</v> but we’ve had computers for 40 or 50 years, why are we only getting this now? <v ->Well, the key reason is that</v> we haven’t had the digital infrastructure before, and that’s the innovation that the blockchain has played, is that it allows that underlying infrastructure for smart contracts to be built on the top of.
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That’s really fundamentally the innovation here. And that’s allowed us to have smart contracts between different entities that we don’t necessarily know. Previously, if you were wanting to deploy a smart contract or codify a contract to a particular way, you would really have to know the counterparty really, really well. And have your system and your counterparty system integrated and talking to each other. What the blockchain does is allow for that protocol not have to be developed between the parties. It already exists. The parties can then opt onto that platform and deploy their smart contracts onto that platform. And so, that’s really the innovation here. <v ->Thank you very much, Aaron.</v> <v ->It’s a pleasure. Thanks.</v> (gentle bright music)

Now that we have a better understanding of what smart contracts are and how they work, let’s explore the benefits they provide. Watch Professor Jason Potts speak with Dr. Aaron Lane about the ways that smart contracts are used in DeFi.

Now it’s your turn

This video outlines some of the benefits of smart contracts. What risks do you think smart contracts introduce. Share your thoughts in the comments.

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Decentralised Finance: Blockchain, Ethereum, and The Future of Banking

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