Smart Contracts: Blockchain’s Lawyer-Killer?

By now you may have heard that blockchain is going to change the world. Cryptocurrencies, such as Bitcoin, Ethereum, and their many competitors, which run on blockchains, are already enabling highly secure monetary transactions, both legal and illegal.

More recently, you may have come across articles speculating that a related technology called “smart contracts” may soon replace lawyers. As we will see, this is hardly a concern, but the full impact of blockchain and smart contracts is hard to predict.

A blockchain is a distributed electronic ledger of transactions. Through the use of cryptography, blockchains are highly secure and resistant to tampering and fraud.

A smart contract is a legally enforceable agreement that acts as a layer on top of a blockchain.

If the blockchain is the operating system, a smart contract is the application.

You may hear blockchain described as a “trustless” system. What does that mean? Consider a paper or electronic monetary transaction between two parties at different banks. When one party pays the other, each party is required to place some measure of trust in both banks. The funds must be verified as belonging to the payor, deducted from their account and credited to the payee. Each party trusts both banks to perform their functions truthfully and accurately, or they would not engage in the transaction.

Consider, on the other hand, a financial transaction on a blockchain. The blockchain is a distributed ledger, a full identical copy of which resides on each of the many computers, or nodes, participating in the network.

When the payor initiates a transfer to the payee, he sends a signal to the network of his intent. Only after a number of nodes agree on the validity of the transaction does it become an immutable part of the distributed ledger. The only trust required is in the computer code, accessible by all participants, on which the network runs — not in self-interested third parties who could choose to commit and profit from fraud.

This removal of middlemen and the need for trust is why blockchain, and by extension smart contracts, stand to be so disruptive. Instead of relying on institutions and attorneys to verify that a contract’s terms are fulfilled, the process is automatic and almost instantaneous.

It seems that clear smart contracts will not replace lawyers any time soon. However, there is at least one legal practice area that may very well see some pressure in the medium-term: transactional law.

Consider real estate sales. At one time, signed, sealed documents on file with government agencies represented the ultimate in data and contract security, and we still treat them as such. But blockchains are far less vulnerable to loss, destruction and fraud than such records. Governments may soon begin to implement blockchains, and real estate records are one possible application.

If liens, deeds and titles are stored in blockchains, then real estate could someday change hands at the push of a button, perhaps pushing some attorneys and title agencies to the margins. Nevertheless, this could only happen after massive public investment in blockchain adoption. Moreover, real estate attorneys are likely already feeling pressure from legal contract vendors and the like.

The practice of transactional law really could be partially obviated by smart contracts. But the potential impact is far greater than that.

How can other types of transactions be turned into smart contracts, and what will it take to get there?

Let’s look at some examples.

Real Estate Rentals
Airbnb and its competitors are revolutionizing short-term real estate rentals, and smart contracts can take this a step further. Upon the payment of rent in the landlord’s preferred cryptocurrency, which is instant and irreversible, a smart contract can automatically fulfill the landlord’s side of the deal. All that is needed is a smart front door lock of the kind being installed on many doors today and a temporary code provided to the tenant, set to expire at the end of the rental term.

Government
Government is ripe for smart contracts disruption, and not just in real estate records. The need for ever more secure identification systems may eventually drive adoption of smart contracts in this field. Payments and expiration could be automated. Voting via blockchain can provide greater transparency and security, and would tie in with identification systems.

Healthcare
Health care records encoded on blockchains could enhance individuals’ ability to control access to their information and share it with providers. This could also be a boon to researchers because records could be easily and reliably separated from patient identities — a major concern in large-scale studies.Many potential smart contract applications suffer from the “oracle problem.” That is, they rely on a third-party oracle to make determinations about external circumstances and data on which the contracts hinge. Trust is inherent in the use of oracles, thus undermining the trustless aspect that makes blockchain transactions so elegant.

In order for smart contracts to interact with the real world, they must be able to receive information from and transmit it to external systems, both computerized and physical. In some cases, this can mean the digitization of records and instruments and their transfer to a blockchain system. In other cases, it can mean finding ways for making physical objects smart — that is, allowing them to send and receive information over a computer network.

In other cases, people must place some measure of trust in oracles, but smart contracts can at least disintermediate the handling of funds and assets.

As with any new technology, serious obstacles stand in the way of wider adoption of blockchain and smart contracts. Inertia, lack of understanding, lack of skilled workers and mature products, and implementation costs are just a few of the obstacles.

Despite these obstacles, limited and experimental uses are already in effect, and the field is spurring interest and investment. Certain types of legal practices could very well feel the effects within a decade. More importantly, though, the long-term effects, while hard to predict, could be to eliminate middlemen and fiduciaries in one application after another.