Smart Contracts

Interest in ‘smart contracts’ has exploded in the past few months. These are agreements written using computer code which self-execute in ‘distributed ledger’ networks.

A distributed ledger, or ‘blockchain’, is a mechanism for authenticating transactions in a network of computers whereby all participating ‘nodes’ update the complete ledger of transactions and compare results in real time. Thus there is no need to rely on a central ‘trusted’ party to ensure verification: the integrity of the system comes from the fact that all participants separately authenticate every transaction and then cross-refer. Every transaction has a unique identifier, or ‘hash’, and the details are encoded using a key that only the participants can unlock.

Distributed ledger technology first came to the fore in the guise of ‘bitcoin’, the virtual currency, which uses this mechanism to ensure the integrity of transactions. However, other networks using the same principle have since emerged that permit a wide range of conditions to be built into transactions. These can be self-executing where the conditions are triggered by some digitally verifiable data input. For example, financial institutions might arrange an interest rate swap, with payments being conditioned on the average of a range of trusted sources of information about interest rates.

As the ‘internet of things’ grows and develops, the possibilities for digital inputs and outputs from smart contracts are expanding rapidly. (Think about placing an order with a bot that scours the internet for the best price, and then delivery being effected by a drone). A race is currently heating up between a range of entrants seeking to develop an interface for writing smart contracts that is sufficiently user friendly to be widely adopted.

These developments will challenge some established legal rules and practices.  Smart contracts, for instance, present a problem for the forensic exercise of contractual interpretation.  Currently, when the meaning of a contract is disputed by the parties to it, a court will consider what that agreement would mean to a reasonable human observer.  Where that agreement is written in computer code, however, and intended for communication to an artificial intelligence, the significance of a reasonable human observer’s interpretation is a matter of contention.  And there is no such thing as a reasonable computer.  Whilst the court can of course enlist the services of a professional coder to translate the code into human language, the process of interpreting that language remains the responsibility of the judge.  Given that the logical architecture of computer code is different to that employed by human language, the task of interpreting that translation is simply not the same as the task of interpreting language intended for human understanding.

In more general terms, smart contracts are also “trustless” in the sense that they can be relied upon even in the absence of trust between the parties concerned.  This is because they facilitate a complete symmetry of information, and a completely transparent process.  In doing so, they may well augur a new era of contracting practices; a “post co-operative” commercial environment.

These technological developments are likely to have, therefore, a disruptive effect on private law, both conceptually and practically.  If the law is to remain relevant to commercial dispute resolution on a global scale, it needs to upgrade its doctrinal tools and concepts. The challenge for lawyers is to determine how best to do that.

Sarah Green is a Professor at the University of Oxford, and a fellow at St Hilda's College.