As financial transactions grew more and more complicated, experts became increasingly divided about how contracts could be executed more efficiently. In a business scenario where trust is a rarity, opposing views were formed on how this could be achieved. In 2015, a young programmer called Vitalik Buterin had a brainwave, and Ethereum was born.
Ethereum is an open-ended, decentralized, distributed ledger based on blockchain technology, much like Bitcoin.
Unlike Bitcoin, however, Ethereum works differently. It runs on a smart contract based protocol, thereby eliminating the chance of censorship, fraud or third-party interference of any kind. It has since been dubbed as an ‘advanced version of Bitcoin’, some even calling it ‘Bitcoin 2.0’.
What are smart contracts?
Nick Szabo, a computer scientist and cryptographer first coined the term ‘smart contract’ in 1994. Smart contracts are essentially self-executing, and self-verifying digital agreements which enforce performance of transactions without the need for third-party interference. They are governed by the terms and conditions explicitly laid out within their protocol.
What Are the Advantages of Smart Contracts?
Smart contracts can facilitate a far more efficient trading system due to possessing various benefits, as compared to the current system in place. Some of these advantages include:
Ethereum operates on blockchain technology and hence runs on a decentralized, open ledger. Furthermore, the highest level of data encryption is used in these smart contracts. This level of protection essentially makes them amongst the most secure items on the Internet. In other words, smart contracts are virtually impossible to hack or manipulate in any way.
Smart contracts are transparent, autonomous, and secure in nature. The possibility of manipulation, bias, or error is eliminated. Smart contracts also record in detail, all the terms and conditions, as stipulated by them and agreed upon; which eliminates room for any miscommunication or misinterpretation. As a result, smart contracts can drastically cut down on inefficiencies caused due to errors, which would normally affect existing trading systems.
The terms and conditions of smart contracts are transparent and can be reviewed by all parties to the transaction. Hence, there is no way to dispute a contract once it has been established. Due to this, parties to the transaction may save on implicit costs relating to litigation, contract disputes, etc.
In case of smart contracts, the need for manual data entry is eliminated, as transactions are verified and executed immediately. Furthermore, measures are being taken towards the automation of operations such as clearance and settlement, transfer of ownership, etc. which can further improve efficiency and speed up transactions.
5. Eliminates the need for intermediaries
Since contracts are executed immediately on a decentralized system and obligations are enforced on all the parties involved in the transaction, the need for a third party is thereby eliminated. This makes transactions cost-effective and eliminates the need for intermediaries in executing and processing transactions.
Although a large number of institutions are eager to integrate smart contracts into their systems, this technology has also been met with harsh criticism from skeptics.
The main drawback that has been pointed out is that smart contracts work best in constrained circumstances, wherein the code is less prone to unexpected outcomes. This is primarily due to the fact that once a transaction has taken place, it cannot be undone.
Due to these factors, smart contracts tend to be standardized, which can make private negotiations and modifications difficult.
However, it is important to note that this technology has been tried and tested, and is in the process of being adopted by a number of financial institutions. Hence, it is safe to say that this revolutionary technology will play a significant role in the world of trade and finance, in the future.
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Finance student who has a keen interest in securities markets and new technologies.