Chapter 10, Smart Contracts

1 Chapter 10, Smart Contracts Outline • Ideas • History • Ricardian contracts • Templates • Oracles • Types of oracles • The DAO 2 Smart Contract - Definition "A smart contract is an electronic 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." Nick Szabo A smart contract is described as a secure and unstoppable computer program that represents an agreement. It is designed to be automatically executable and enforceable without requiring intermediaries. 3 Key Characteristics 1. Secure – Smart contracts are designed to be resistant to hacking and unauthorized modifications. 2. Deterministic – Given the same input, they always produce the same output, ensuring reliability. 3. Semantically Sound – They function as intended and follow predefined rules correctly. 4. Unstoppable – Once executed, the smart contract cannot be halted. Once deployed, it usually cannot be changed. Implications ● ● Smart contracts operate on blockchain technology, making them tamper-proof and trustless (do not require a trusted third party). Since they cannot be stopped or altered once deployed, they require careful design and testing before deployment. Ricardian Contracts Model Ricardian contracts were introduced in Financial Cryptography in 7 Layers, by Ian Grigg, in the late 1990s. • It is a contract offered by an issuer to holders • It is a valuable right held by holders and managed by the issuer • It can be easily read by people (like a contract on paper) • It can be read by programs (parsable, like a database) • It is digitally signed • It carries the keys and server information • It is allied with a unique and asecure Ricardian contracts can record identifier document as a legal contract, and securely link it with other IT systems. • They use cryptographic hashes for identification • They include human-readable legal prose, and machine-readable code! Ricardian contract bowtie model links the world of law, cryptography, and accountancy. ● ● ● World of Law (Legal Aspect) ○ A Ricardian contract is a written legal agreement. ○ It contains a PGP signature to ensure authenticity. (notes for details on PGP) World of Cryptography (Security & Identification) ○ The contract undergoes a message digest function (hashing). ○ It gets a secure identifier (hash), which acts as a unique fingerprint. World of Accountancy (Financial Transactions) ○ The contract hash is linked to a genesis transaction. ○ It allows user transactions to reference the legal agreement, ensuring compliance. 4 Smart Contract Templates Smart contract templates provide structured, reusable frameworks for creating and deploying legal agreements in financial and other domains. They allow for efficient, consistent, and automated execution of contractual obligations using blockchain or other distributed ledger technologies. 1- Framework for Legal Agreements in Financial Instruments ● ● 5 Key Elements of Smart Contract Templates 1. Framework for Legal Agreements in Financial Instruments 2. Domain-Specific Languages (DSLs) 3. Common Language for Augmented Contract Knowledge (CLACK) Smart contract templates help formalize legal agreements in a standardized and automated way. They ensure that contracts are legally sound and can be executed efficiently on a blockchain. 2- Domain-Specific Languages (DSLs) ● ● ● DSLs are programming languages designed specifically for expressing contracts. Examples: ○ Solidity (Ethereum) – Used for writing smart contracts on the Ethereum blockchain. ○ Lexon – A human-readable DSL for legal contracts. ○ Marlowe (Cardano) – A DSL for financial contracts. These languages help make contracts more precise and legally enforceable. 3- Common Language for Augmented Contract Knowledge (CLACK) ● CLACK is a framework that defines contracts in a human- and machine-readable format. ● It enables automation, verification, and execution of agreements. ● Ensures that contracts remain legally interpretable while being machine-executable. Smart Contract Templates are Important ➔ ➔ ➔ ➔ Standardization – Provides reusable contract structures. Automation – Reduces human intervention in executing agreements. Legal & Machine Readability – Ensures contracts are both legally binding and programmable. Efficiency & Security – Enhances contract execution with cryptographic security. Oracles Oracles are third-party services that provide smart contracts with external (off-chain) data. Since blockchains operate in a closed and deterministic environment, they cannot access real-world data on their own. Oracles act as bridges between the blockchain and the external world. 6 Oracles act as interface between the external world and the blockchain domain. They enable smart contracts to access off-chain data from external sources • An oracle usually takes data from the outside world, then feeds it securely to the blockchain • In some cases, the process is implemented in reverse How Oracles Work ● ● ● ● Data Source: Oracles fetch data from external sources like APIs, IoT devices, financial markets, weather services, etc. Processing: The oracle verifies and formats the data to be usable by smart contracts. Transmission to Blockchain: The oracle feeds the data into the blockchain, allowing smart contracts to use it. Smart Contract Execution: The smart contract processes the received data and executes logic accordingly. Why Are Oracles Important? ● ● ● ● Expand Blockchain Utility: Without oracles, smart contracts can only operate on on-chain data. Enable Real-World Use Cases: Oracles allow smart contracts to react to real-world events. Improve Automation: Oracles help automate financial transactions, insurance claims, and logistics. Increase Decentralization: Decentralized oracles remove reliance on a single data provider, reducing risks of manipulation. Off-chain data refers to information that exists outside of the blockchain and is not natively stored or processed by the blockchain network. Since blockchains are self-contained and do not have direct access to external data sources, they require oracles to fetch, verify, and relay off-chain data for use in smart contracts. Characteristics of Off-Chain Data ● ● ● External to Blockchain: ○ Data that resides in web APIs, databases, IoT devices, stock markets, weather reports, etc. ○ Example: A stock price fetched from a financial exchange. Not Immutable: ○ Unlike on-chain data, off-chain data can be modified or updated outside of the blockchain. Cost-Efficient: ○ Storing large datasets on-chain is expensive due to gas fees (especially in Ethereum). ○ Off-chain solutions store data separately and only provide necessary information when required. Common use cases of smart contracts 7 Generic Oracle Data Flow 8 The above diagram shows a generic oracle data flow, which illustrates how external data is securely fetched and used in a blockchain smart contract through an oracle. Here's are the steps that ensures that the smart contract can trust the off-chain data it receives.: 1. Smart contract → Oracle: The smart contract initiates a request for external data. 2. Oracle → Data sources: The oracle forwards this request to external data sources (e.g., APIs, web services). 3. Data sources → Attestation service: The data sources send the response for attestation, which is the process of verifying the authenticity and integrity of the data. 4. Attestation service → Oracle: The attestation service validates the data and returns it to the oracle with an authenticity proof. 5. Oracle → Smart contract: Finally, the oracle sends the verified data to the smart contract, Proofs of data integrity and authenticity in oracles 9 Several type of proof are used to authenticate the integrity of the data fed to the blockchain by oracles, These proofs ensure that the oracle data is trustworthy, especially critical for blockchain smart contracts. ● Software and network-assisted proofs: Use software or network-level checks (e.g., secure API connections) to verify data integrity. ● TLSNotary: A cryptographic method that proves a web session occurred (via TLS) without revealing full session content. ● TLS-N based mechanism: An enhanced version of TLSNotary offering noninteractive and tamper-proof verification of HTTPS data. ● Hardware device-assisted proofs: Use physical devices (like HSMs) to sign or verify that data has not been tampered with. ● Android proof: Specific to Android environments, it verifies data sourced from Android apps using built-in security features like SafetyNet. ● Ledger proof: Utilizes secure ledger devices (for e.g, hardware wallets) to sign data, proving its origin and integrity. ● Trusted hardware-assisted proofs: Rely on technologies like Intel SGX or TPMs to Types of Oracle 10 The following are different types of oracles, each with specific roles in enabling smart contracts to interact with the external world. These types are essential for enabling real-world utility and interactions in blockchain-based systems. 1. Inbound oracles: Bring external data ( weather, prices, sensor data) into the blockchain for use by smart contracts. 2. Software oracles: Fetch data from online sources like APIs, websites, or databases. 3. Hardware oracles: Collect data from physical devices, like IoT sensors, barcode scanners, or biometric systems. 4. Computation oracles: Perform complex computations off-chain and return the result to the blockchain, useful for heavy processing. 5. Aggregation-based oracles: Gather and combine data from multiple sources to improve accuracy and reduce the risk of manipulation. 6. Crowd wisdom-driven oracles: Use human input or voting to determine the outcome or value of a data point ( predictions, truth or false claims). 7. Decentralized oracles: Eliminate single points of failure by using a distributed network of oracles for data delivery and verification. 8. Smart oracles: Also called automated oracles, these include logic and can make decisions before delivering data to smart contracts. 9. Outbound oracles: Send blockchain data to external systems, like triggering payment APIs, sending alerts, or interacting with external devices. The DAO - One of the most important events in blockchain history 11 What was The DAO? ● DAO = Decentralized Autonomous Organization ● It was a smart contract-based investment platform launched in April 2016. ● Purpose: Let people pool funds and vote on investment decisions without What went wrong? intermediaries. ● ● There was a bug in the code called a reentrancy vulnerability. A hacker exploited it and drained 3.6 million ether (about $50 million USD) into another account. Consequences: To reverse the theft, the Ethereum community performed a hard fork—this split the blockchain into: • Ethereum (ETH) → the updated version (with stolen funds returned) • Ethereum Classic (ETC) → original chain (unchanged) Ethical Debate: Sparked debate about “code is law”: ○ Should smart contract code always be final, even if it contains bugs? ○ Or should the community intervene in extreme cases? The DAO was a groundbreaking but flawed project that reshaped Ethereum and highlighted the importance of secure smart contract coding. Exercise • Analyze line 666 of the DAO and find reasons that why reentrancy was possible—use internet search and other sources of information as required 12 Summary In this presentation, we considered a number of concepts related to smart contracts, including: • History • Ricardian contracts • Templates • Oracles • The DAO • An exercise to understand the DAO reentrancy bug 13