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Technological development is a challenge for the legal community

Smart contracts are an important element of the blockchain revolution, even if they predate the blockchain. According to most sources, this was the case Nick Szabo WHO razil the term “smart contract” in the 1990s. Since then, the vending machine mechanism has often been cited as an example of a basic intelligent contract based on if-then logic. Payment to the vending machine triggers an irrevocable automated action from the time the money is retained until the item is delivered.

The emergence of blockchain technology has made it possible to implement such if-then logic on decentralized networks to facilitate autonomous self-executing, self-executing smart contracts, also called computer scripts, smart code, computer protocols, or decentralized business logic. Ever since they gained popularity, there has been debate and question whether they are smart or contracts at all.

Basics of smart contracts

Leaving this debate aside for the time being, smart contracts offer many benefits. One of them is the efficiency brought mainly by automation, their rational creation, unambiguous interpretation and effective performance. Increasing efficiency brings cost savings achieved by removing intermediate layers and reducing ambiguity and opportunistic behavior.

Transparency of smart contracts ensures auditability and increases trust. Technologically guaranteed performance facilitates transactions not only between parties who do not know each other, but also between parties who would be reluctant to carry out mutual transactions without guaranteed performance. Ex-ante performance assurance through automation and self-execution of smart contracts also helps to avoid institutional enforcement and costly contract breaches. Smart contracts can enable more efficient and cheaper business processes, supply chain management, corporate governance and much more. We are just beginning to explore their potential uses.

However, it must be said that smart contracts also require a degree of technical literacy in order to be coded, implemented and understood, and outside the blockchain community, these skills remain relatively low. Smart contracts are also not free from technical challenges and vulnerabilities at all stages of their life cycle, from creation to deployment, implementation and completion. There are also ex-ante costs for the implementation of smart contracts and the costs of switching to smart contract networks, which should not outweigh the benefits of achieving any efficiency gains.

Related: The promise of intelligent contract acceptance is hampered by the crypto silo

Technology and law

Smart contracts are a crossroads of technology and law, and therefore a challenge for experts, scientists and legislators – many legal issues have been discussed. Smart contracts were not labeled as smart contracts or contracts. First, there is neither a commonly agreed definition nor a uniform, structured and systematic classification of smart contracts. There is no common agreement or understanding on the relationship between smart contracts and traditional legal contracts. Some researchers question the ability to create valid and binding legal contracts through a smart contract.

Related: Hybrid smart contracts will replace the legal system

Discussions are under way on the relevant legal frameworks and on how to reconcile the immutability of blockchain records with contractual errors or deficiencies. Similar concerns were raised when the terms of the smart contracts recorded in the fixed ledger were changed. Also, the applicable law and the relevant jurisdiction are particularly relevant issues for decentralized blockchain networks without borders, on which smart contracts are deployed. Consumer protection and the obligation to provide information are also under way.

Increasingly, there are significant concerns about anti-money laundering (AML) / counter-terrorist financing (CFT) requirements, as well as privacy and confidentiality issues. Unmistakability and automated, unstoppable implementation are also potential legal pitfalls for the use of smart contracts.

This analysis is more difficult because there are different types and models of smart contracts depending on their legal relevance (if any), context and technical characteristics. It varies from simple, direct and standardized payment instructions to sophisticated tools capable of performing a complicated sequence of actions on their own. The emergence of smart contracts based on blockchain has also brought a new dimension to the concept of self-regulation in cyberspace. This was followed by discussions on “code is the law” and “Lex Cryptographia”.

However, as far as legislators and regulators are concerned, they have been largely silent on smart contracts. Despite the intense scientific debate on the legal status, recognition and enforcement of smart contracts, their normative legitimacy and legal implications, legislators do not seem to be concerned or moving towards any prohibition measures. Although there is some legislative activity in selected jurisdictions, so far only a handful of countries have formulated a regulatory response and adopted legislation that has usually been modest.

Smart contracts vs. USA

For example, most legislative initiatives on smart contracts in the United States are relatively narrow and are governed by a select number of issues, most of which are limited to defining smart contracts, recognizing their electronic form and signatures, and sometimes their admissibility as evidence. This includes states like Arizona, Tennessee, North Dakota, Nevada, Wyoming and Illinois. Some critics have argued that such legislative initiatives are premature and incomplete and do not go beyond the support of a particular jurisdiction. This creates the risk of regulatory fragmentation between US states and gradual legislation on smart contracts, which may complicate harmonization at the federal level in the future.

U.S. federal regulatory and supervisory agencies, such as the Commodity Futures Trading Commission (CFTC) and the Securities and Exchange Commission (SEC), have addressed smart contracts through their investigations, statements, and guidelines that clarify some of the legal implications of using smart contracts in the United States. CFTC issued the basis for smart contracts, in which it argues that a smart contract could be a binding legal contract, depending on the facts and circumstances, and could be subject to a number of existing legal frameworks. The CFTC also highlighted several risks arising from the use of smart contracts, including operational risks, technical risks, cyber security risks, fraud and handling risks, and risks arising from governance protocols.

Like the CFTC, the SEC applies existing legal frameworks in its enforcement measures regarding blockchain and smart contracts. As a sign of increasing regulatory control, the SEC has recently announced Procurement of tools for intelligent contract analysis to analyze and detail code in blockchains and other distributed books, to support its efforts to monitor risks, improve compliance and inform the SEC’s policy on digital assets

Smart contracts vs. world

In other parts of the world, countries love it Belarus, Italy and Russia deal with smart contracts to a limited extent. Working Party on Jurisdiction in the United Kingdom issued an important legal statement concluding that smart contracts are capable of concluding valid, binding and enforceable contracts between the parties, with an emphasis on the adaptability and flexibility of common law, which is able to ensure technological progress such as smart contracts. The European Union has also expressed consumer protection concerns regarding the use of smart contracts, but no regulatory action has yet been taken at EU level.

Existing legislative initiatives seem to be in line with the recognition of smart contracts in existing legal frameworks; however, they differ in defining smart contracts. It is only a matter of time before the problems related to smart contracts reach the courts, which will allow the judiciary to deal with legal issues, especially in common law jurisdictions.

Conclusion

Meanwhile, the dissemination of differing definitions and the potentially legal treatment of smart contracts can lead to legal uncertainty and regulatory arbitrage. Legislators should therefore closely monitor the development of smart contracts and intervene only if necessary to ensure legal certainty, mitigate risks and protect vulnerable parties. Such a measured risk-based regulatory approach would foster innovation, seize opportunities and integrate smart contract innovation into existing legal systems. Appropriate regulatory guidance could also help remove legal uncertainty and increase market confidence in industry, investors and consumers.

The size of the global smart contract market is growing rapidly. It is he predicted to gain a compound annual market growth rate of 17.4% in the annual forecast period 2020-2025 and is expected to reach USD 208.3 million by 2025. Smart contracts are increasingly used in a wide range of industries, including the financial sector, the public sector, supply chain management and the automotive, real estate, insurance and healthcare industries. They are also the backbone of a growing area of ​​decentralized financing (DeFi). Regulators will be increasingly challenged to respond to and address smart contracts, but legislative initiatives so far suggest that there are no major barriers to the use of smart contracts; no substantial legal reforms seem to be needed to adopt them.

The views, ideas and opinions expressed herein are by the author only and do not necessarily reflect the views and opinions of Cointelegraph or the Warsaw University of Technology or its affiliates.

This article is for general information purposes only and is not intended as legal advice.

Agata Ferreira He is an assistant professor at the Warsaw University of Technology and a visiting professor at a number of other academic institutions. She studied law in four different jurisdictions under common and civil law systems. Agata has practiced law in the financial sector in the UK for more than a decade at a leading law firm and investment bank. She is a member of the panel of experts on the EU Blockchain Observatory and Forum and a member of the Blockchain Advisory Board for Europe.



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