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What is a Smart Contract?

By Evan Jones04/18/2023

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One of the strongest use cases for crypto and blockchain is smart contract capabilities. Smart contracts are implemented in a variety of ways across the cryptocurrency sector, from decentralized finance and bridges, to NFT minting. The main difference between a smart contract and a traditional contract is that you don’t need someone to enforce a smart contract like you would a traditional one. Those who interact with a smart contract must adhere to the rules built into it in order for it to work, and the contract will enforce these rules without oversight. This saves businesses time and money.

Smart contracts have potential use cases for all sorts of industries because anything that involves a traditional contract could instead use a smart contract one day. The contract is then secured by the blockchain where it’s always able to be verified and where it cannot be altered. Sensitive medical data could be shared securely with set parameters for access and health plans, binding financial contracts could be executed without having to even ask the other party to send their share, and much, much more. In this guide, we’ll further break down smart contracts. 

Decentralized Finance (DeFi) Runs on Smart Contracts

Decentralized Finance, or DeFi, is perhaps the biggest draw in cryptocurrency. DeFi encompasses a variety of decentralized applications (dApps). This includes financial services such as decentralized cryptocurrency exchanges (DEXs) like Uniswap, lending platforms like AAVE, yield aggregators like Yearn.finance, and automated market makers (AMMs) like PancakeSwap. 

All these types of dApps give you opportunities to use your crypto to generate a high rate of return, which is the main draw. This can be done through providing liquidity to a DEX/AMM, providing liquidity to a lending platform, or using a yield aggregator. Regardless, all of these functions rely on smart contracts. Without smart contracts, none of the services available on blockchain would be possible.

How Do Smart Contracts Work?

A smart contract works ostensibly in the same way that a real-life contract does. There are parameters created for the contract, along with any conditions, requirements, etc. With a smart contract, rather than all this information being contained in a document that then needs to be verified and executed by someone, it’s all done automatically and without an intermediary. 

Smart contracts are written using code, meaning that there are smart contracts written in a variety of coding languages such as Java, React, Haskell, and many more. Much like with a real contract, it will have to be converted to the other language that’s used in that specific system. For example, you can’t just drag and drop a smart contract written in Haskell into an application that uses React and vice-versa, just like you can’t just use an English contract in China. There are developers working on ways to alleviate this issue, if not outright solve it by creating a coding conversion system, but that’ll take a while to be developed.

Are Smart Contracts Safe?

Much like real life contracts, smart contracts are only as safe as their construction allows them to be. What’s meant by this is that in real life, contracts can have loopholes, or incorrect information that allows someone to get out of a deal or something of the like. Smart contracts are no different, they can contain bugs, vulnerabilities, and security flaws (loopholes). These issues can be exploited by hackers and other bad actors, and have been in the past with an array of DeFi hacks and bridge exploits over the past few years.

With that being said, smart contracts are safe as long as they’ve been properly audited, tested, and re-tested. While not every smart contract is perfect today, over time they’ll only improve in security and viability. If you’re unsure of whether you feel safe using a particular smart contract, then avoid doing so, or check out any audits that have been done regarding it. Due diligence is key when considering whether smart or traditional contracts are safe to use. 

What’s the Future of Smart Contracts?

The future of smart contracts is bright. Even if crypto in its current form doesn’t survive (which is unlikely), smart contract technology isn’t going anywhere. It will continue to be developed by mainstream IT companies such as IBM.

In the future, smart contracts will likely be able to be used for everything from buying a house to agreeing to purchase inventory from a supplier. The possibilities are endless.

Article tags

Beginner
cryptocurrency
ethereum
Evan Jones

Author

Evan entered the crypto scene in 2017, attracted to the many disruptive possibilities that blockchain could have on current world systems. He has a keen interest in decentralized services, payment processing, and viable NFT use cases such as event ticketing. He spends his days writing with his dog Kobe under his feet, if not on his lap.

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