What are Ethereum Smart Contracts and does Bitcoin use them?

13 November, 2018

As similar as cryptocurrencies are in many ways, each individual crypto has its own unique aspects that set it apart from the rest. That is certainly true of Ethereum.

One of the most glaring differences between Ethereum and Bitcoin are Ethereum's smart contracts. The smart contract was built into Ethereum from the start.

This post will explain in detail what smart contracts are and how they are used in the cryptocurrency space. Needless to say that not all cryptocurrencies make use of the contracts to the same degree. Some have fully implemented smart contracts and all they imply. Others offer only limited support for them.

What is a Smart Contract?

The smart contract has been defined in many different ways to explain how different platforms use them. We believe the best way to define them is to go back to their original source, a computer programmer and cryptographer by the name of Nick Szabo.

It was Szabo who first coined the term 'smart contract' to describe his vision of combining contract law and electronic commerce. He developed smart contract technology in hopes of coming up with the first decentralized digital currency.

Szabo's smart contract is nothing more than a computer protocol coded in such a way as to facilitate, verify, and enforce the negotiation of a contract between two computers. Now, do not confuse these contracts with legal documents. While the two are similar, they are also quite different.

A legal contract between two parties requires both parties to execute their responsibilities under the force of law. If one party to the contract should break it, the other party turns to the law for enforcement. The second party ultimately relies on the law to reconcile the issue.

A smart contract is more one-way by nature. It sets out the terms of the negotiation taking place between both computers, with the originating computer pushing the data to the receiving computer. The receiving computer has no choice but to receive the data as sent. It cannot modify or reject that data. As for the sending computer, it must execute the transaction exactly as it is programmed to do.

Smart contracts can be programmed to work in both directions. For example, the receiving computer can trigger the sending computer to perform a certain function based on some sort of trigger. However, smart contracts are typically one-way contracts for purposes of trading cryptocurrency.

How does a Smart Contract work?

Once you get beyond the computer programming aspects of smart contracts, they are actually quite simple to understand. Let's say you are an Ethereum user looking to purchase a soft drink from a vending machine that accepts Ethereum. On that vending machine is a QR code that you scan with your smartphone in order to pay for your drink.

Scanning the code brings up your crypto app, through which you can send the vendor the desired amount. Your use of the app creates a smart contract that initiates the transfer of Ethereum from your wallet to the vendor's wallet. Your phone becomes the sending computer while the vendors computer is the recipient.

Neither your phone nor the recipient computer has any say in the matter. You are forcing the transaction as the user. Once the transaction has been completed, it is reversible and unchangeable. The nature of smart contracts makes them self-enforced. Thus, decentralization is achieved.

Are Smart Contracts applicable to more than crypto?

When Nick Szabo first developed the smart contract, his vision was more or less centered around financial transactions. But it soon became apparent that the smart contract concept is not limited only to cryptocurrencies. Any change of information or value that takes place via computer network can be facilitated via a smart contract.

Do you want to pay for your next vacation via cryptocurrency? You can use Ethereum, and it's a smart contract to do just that. Perhaps you have a home automation system that is programmed to automatically adjust the lights in your home at certain times of the day. It is a smart contract that makes it happen.

The beauty of smart contracts is that they can be used to facilitate virtually any kind of irreversible data transaction. Combined with blockchain technology, the smart contract is quickly becoming a mainstay of modern networking. Smart contracts are even entering the realm of the internet of things (IoT).

What are Ethereum's Smart Contracts?

Now that you know about smart contracts in general, you may be curious about the Ethereum smart contract. The first thing to know is this: Ethereum was not intended to be just a cryptocurrency when it was first developed. In fact, Ethereum developers started with a plan to build both a blockchain and a smart contract platform. It just so happens they added crypto to the equation as they went.

The architecture Ethereum is built on is based entirely around smart contracts from start to finish. The crypto portion of Ethereum operates entirely on a smart contract framework that supports its blockchain. Yet the smart contract framework can also operate independent of crypto. As such, Ethereum has a leading role in developing the IoT. Their smart contracts are being implemented in all sorts of ways most people are not even aware of.

For example, the IoT now makes it possible for the modern car to monitor itself with every mile driven. The car automatically schedules routine maintenance when certain parameters are reached. Driver input is never required, except to confirm a service appointment with the dealer.

Making this work is an automated smart contract that exists between the car's computer and the manufacturer's computer. When certain parameters are reached - let's say the car is driven 7,000 miles - the contract requires the car's computer to send an update to the manufacturer's computer to request a service appointment.

The receiving computer receives the information, thus triggering yet another smart contract that sets up the service appointment with the nearest dealer. All of this occurs seamlessly without any interference from the driver, manufacturer, or local dealer.

Does Bitcoin use Smart Contracts?

Bitcoin is the clear leader among cryptocurrencies in terms of overall price and market capitalization. It is not even a close race. So the question is, does Bitcoin use the same smart contracts Ethereum is built on? Yes and no.

Individual Bitcoin transactions are facilitated by the simplest of smart contracts. These are single contracts that are executed on a per-transaction basis. Each contract is unique to the transaction to which it pertains. So in that sense yes, Bitcoin does use smart contracts. But such use is extremely limited.

By design, Bitcoin contracts can only be used to facilitate Bitcoin transactions. They are completely useless to the greater IoT because they cannot be adapted for any other use outside of Bitcoin exchange.

As the IoT grows and expands, everyone from manufacturers to computer programmers are going to be looking for new ways to use Ethereum's smart contracts to facilitate all sorts of data transactions. Our appliances will be smart because of the smart contracts behind them. Our cars will be smart for the same reason. Bitcoin will be a non-player in this arena.

In short, the future of Bitcoin is not likely to have any kind of impact on the growth and evolution of the IoT. It will be involved in as much as Bitcoin transactions will still be conducted globally, but the IoT will move on without Bitcoin smart contracts because it cannot use them. Ethereum, on the other hand, will be right there.

How will Smart Contracts impact online gambling?

There is no reason to panic over how the development of smart contracts in the IoT will impact online gambling. Remember that smart contracts, in principle, are not limited just to cryptocurrency. The contracts that will fuel the development of the IoT will be completely separate from those contracts that facilitate cryptocurrency transactions.

Just as an example, having to schedule your own car maintenance manually doesn't impact your ability to gamble using cash. Using a credit card to pay for car maintenance doesn't impact your ability to make a casino deposit with your credit card either. These are separate transactions that exist on separate planes.

As long as online casinos continue accepting Bitcoin deposits, you will be able to gamble online using the cryptocurrency instead of fiat currency. That is not going to change just because smart contracts are being implemented within the IoT. The fact that your refrigerator can talk to the local repair technician's computer will have no bearing on your ability to gamble online with Bitcoin.

Having said that, cryptocurrencies like Ethereum may become more popular in the long run due to the nature of their smart contracts. This could affect online gambling to the extent that Ethereum, or another crypto, becomes the preferred currency while Bitcoin is left behind. But that seems more speculation than anything else.

Thanks to Ethereum's smart contracts, today's computers have the ability to execute data transactions between themselves without any interference from third parties. That makes the transactions very secure, irreversible, and quite accurate. This is good for the entire computer networking sphere, but particularly the IoT and financial transactions.