What are smart contracts? Types, benefits and use cases explained

With the advancement of IT technologies and blockchain platforms, a new type of contract has emerged: smart contracts.

In this article, we will explore smart contracts and how they are used today.

What are smart contracts? Smart contracts explained

What is a smart contract? It's like a digital agreement that runs itself, with all the terms and conditions written directly into the code. It operates on a blockchain network, so the contract is automatically executed and enforced when set conditions are met.

There is no need for intermediaries such as lawyers or banks because the contract rules are transparent and immutable once implemented. Basically, smart contracts in cryptocurrencies streamline and secure transactions, making them faster, more efficient, and less dependent on third-party oversight.

Historical background

The concept of smart contracts dates back to the mid-1990s, when computer scientist and cryptographer Nick Szabo first proposed the idea.

He envisioned a digital protocol that could automatically execute the terms of a contract when predefined conditions were met, similar to a vending machine that dispenses a snack when the correct amount of money is inserted.

But it wasn't until blockchain technology emerged, especially with the launch of ethereum in 2015, that smart contracts took off. The ethereum blockchain gave developers the tools to create and run code that could handle complex agreements on its own. This advancement led to a wave of new decentralized applications, which revolutionized things by automating transactions and eliminating the need for middlemen.

How do smart contracts work?

Smart contracts use simple “if/when…then…” commands written on the blockchain. They automatically handle tasks like releasing funds, registering assets, or sending notifications once conditions are met. The permanence of the blockchain ensures that transactions are visible only to authorized parties.

Smart contracts can get quite complex and involve several conditions that everyone must agree to. This means deciding how transactions are recorded, handling any exceptions, and figuring out how to resolve disputes.

Each node in the network stores a copy of all smart contracts along with the blockchain and transaction data. When a contract receives funds, all nodes execute the contract code to agree on the outcome, ensuring that everything runs smoothly without a central authority.

Not all blockchains can execute automated contracts, so it's good to know which ones do and which ones don't. While platforms like ethereum, Arbitrum, Avalanche, Base, and BNB Chain do, others, like the bitcoin base blockchain, do not. The main difference is whether a blockchain can handle and store complex logic. Once a smart contract is set up, it generally remains as is, even for those who created it. This stability helps it resist censorship and prevents it from being shut down easily.

Types of smart contracts

Smart contracts on blockchain are generally divided into three types:

Smart legal contracts

Smart Legal contracts are designed to align with formal legal agreements, meaning that the parties involved are legally responsible for complying with the terms of the contract. These can range from contracts that facilitate the conversion of cryptocurrency to fiat to those that handle real estate records.

Many existing smart contracts are legal in nature and underpin various platforms, including cryptocurrency exchanges, DeFi projects, GameFi projects, and blockchain-based platforms such as nft marketplaces and real estate tokenization platforms.

Decentralized Autonomous Organizations

DAOs are communities governed by a set of rules encoded in smart contracts. Once these rules are established, DAOs use these contracts to enforce them, provide legal protection mechanisms, and impose penalties for non-compliance. Essentially, DAO smart contracts function as the laws of the “digital” organization and bureaucracy.

Examples include governance protocols for Decentraland, Uniswap, Polkadot, and MakerDAO. In these projects, governance is managed by native token holders, who can propose changes (such as adjusting fee structures, altering blockchain code, or adding or removing parachains) and vote on them. DAO contracts handle the voting process and count the votes.

Application logic contracts

ALCs operate under a government program and their main task is to manage the interactions between this program and the blockchain. For example, ALCs could facilitate the integration of Internet of Things devices with blockchain.

Benefits of smart contracts

The advantages of using blockchain are impressive for individuals, companies and governments.

Transparency: One of the biggest advantages is transparency. Every transaction on a blockchain is public and verifiable, so once data is added, it cannot be changed. This means you can trust that smart contracts are secure and have not been tampered with, giving you peace of mind whether you use them personally or for business.

Profitability: Smart contracts take care of much of the legwork when it comes to establishing and managing agreements. Since they do not require intermediaries such as lawyers, banks or brokers, they save money and streamline processes.

Build trust: Because smart contracts are automated, they reduce the possibility of human error and build trust between parties.

Secure Storage and Backup: Data loss is a big risk for any organization. While backups are important, they are not always foolproof. However, Blockchain technology keeps data on many nodes, so it is much less likely to be lost or tampered with while the blockchain is running.

Security: Smart contracts are incredibly secure thanks to advanced security and encryption protocols. They are some of the most secure tools for handling transactions today and offer strong protection against hacking and manipulation, just like cryptocurrencies.

Use cases

Cryptocurrency token smart contracts are used to create, manage, and assign ownership of specific digital tokens on blockchain networks. These contracts program the functionalities of the tokens they issue, granting them various roles.

For example, they could allow tokens to serve as utility tokens for applications (offering features or benefits within an application), governance tokens that give holders voting power in a protocol, security tokens that represent shares of a company or nfts that represent ownership of unique assets. physical or digital assets.

Examples of smart contracts

Examples of smart contracts in action:

ethereum. ethereum allows developers to create dapps and supports many DeFi projects. Smart contracts on ethereum are super flexible and handle everything from converting real-world assets into digital tokens to automating transactions. It is a hub for many innovative blockchain activities.

Then there is Binance Smart Chain. It is famous for its speed and efficiency. While it is compatible with ethereum, it offers lower fees and better performance, making it a great option for various projects. It has become a popular choice for DeFi and tokenization projects due to these advantages.

Polka dots. Polkadot is all about connecting different blockchains. It allows you to create parallel blockchains that can interact with each other and supports smart contracts for various applications, improving blockchain interoperability.

Chain link. Chainlink is like a bridge that connects smart contracts to the real world by providing them with external data. Thanks to their decentralized oracles, these contracts can access information in real time, making them even more dynamic and adaptable.

Future of smart contracts

The future of smart contracts is bright and full of potential. As technology continues to evolve, these contracts will become smarter, more secure, and more efficient. This is due to continuous updates in blockchain technology and better programming tools.

We are likely to see these technology contracts revolutionize industries beyond the financial and legal sectors, influencing areas such as supply chain management and government operations. All in all, smart contracts are gearing up to be a major force in shaping the future of our digital world.