A Cost-Benefit Analysis of Using Smart Contracts in Banking

By Alexander Lielacher Apr 14, 2017 11:45 AM EST

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Smart contracts are one of the most talked about new technologies in financial services today. Blockchain-based smart contracts can be used for two or more parties to electronically agree on terms and conditions of a contract involved in a financial transaction. In the case of banking and financial services, the applicability of smart contracts is very broad and ranges from issuing bonds to improving KYC processes as well as settling and clearing securities, among others.

The whitepaper published by the UK FinTech Network in cooperation with technology consulting company Zerado titled ‘Smart Contracts – From Ethereum to Potential Banking Use Cases’ discusses the potential use cases of smart contracts in banking as well as weighing both the costs and benefits of implementing this new technology in the financial industry.

The original definition of smart contracts dates back to 1994 when computer scientist Nick Szabo defined them as “a computerized transaction protocol that executes the terms of a contract. The general objectives are to satisfy common contractual conditions (such as payment terms, liens, confidentiality, and even enforcement), minimize exceptions both malicious and accidental, and minimize the need for trusted intermediaries. Related economic goals include lowering fraud loss, arbitrations and enforcement costs, and other transaction costs.” Despite this definition being over 20 years old, it hasn’t changed much since. The only difference is that through blockchain technology, smart contracts are now a reality.

A distributed ledger-based smart contract allows all parties in a transaction to agree to the terms and conditions of the transaction, including automated payments when certain conditions are met. The terms of the contract are written in a programming code and then the code is then used to define the rules and legal consequences in the same way a traditional legal document would. This includes obligations, benefits and legal

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