How do Ethereum smart contracts work?

Even if you've only got a passing interest in cryptocurrencies, it's highly likely that you'll be aware of Ethereum (ETH) – one of the most prominent currencies and crypto technologies in today's marketplace.

While operating on a similar blockchain technology to Bitcoin, Ethereum has some significant differences – not least the fact that is built around the concept of 'smart contracts'.

Here, we'll look at what a smart contract is, how they work – and step outside the theory and complex programming ideas to look at exactly how smart contracts work in the real world.

What is Ethereum?

At a glance, Ethereum looks to be the same as Bitcoin. In reality, this isn't exactly true. When people talk about buying, selling or trading Ethereum, they're actually talking about the cryptocurrency that is part of the Ethereum network – and that currency is called Ether.

So, what's Ethereum? Well, most people (including us!) tend to refer to the Ether cryptocurrency as Ethereum – but in actual fact, Ethereum is something much bigger than just a currency – it's an entire blockchain infrastructure – and it's built specifically for creating smart contracts.

What is a smart contract?

How do Ethereum smart contracts work - What is a smart contract

A smart contract isn't really a great deal different to any other contract; when one or more parts of a deal are satisfied, a resulting action or series of actions occur.

Bitcoin works with smart contracts to some degree – i.e. if your private key checks out against the rest of the blockchain, then the currency is transferred. However, where the Bitcoin blockchain is all about transferring the Bitcoin currency to one another, Ethereum's blockchain is much more versatile.

A true smart contract has the potential to do a great deal more than simply decide whether or not currency can be transferred, including:

  • Be represented by its own token which can be interchanged freely on the Ethereum network.
  • Store information about products, ownership, membership records and so forth
  • Provide access to other services and agreements
  • Manage on-going agreements between parties
  • Provide multi-signature accounts that require multi-user sign-off

...and much, much more.

On that basis, the Ethereum network can be used to store an unfathomable amount of information relating to an incredibly diverse range of contracts. In fact, Vitalik Buterin – the main brain behind Ethereum - suggests that the most exciting ideas for the platform perhaps haven't even been considered yet.

How does a smart contract work?

So, we know the Ethereum blockchain is built around smart contracts – what exactly are they?

Smart contracts are sometimes referred to as 'self-executing contracts' – and it's when you think about them in these terms that you begin to see how they fit in with the whole community ethos behind cryptocurrencies.

Blockchain technology is 'trustless' – i.e. there are no individuals or organisations who need to push a button to make your currency transfer happen. Control falls to you and the complex code that keeps them running.

Ethereum's smart contracts take these trustless transactions much further – extending them as far and wide as the applications we can create to enact them. Perhaps that means property ownership rights, supply chain management, club & loyalty memberships, credit collections, subscriptions, paying employees – the list is potentially endless – and the self-executing nature of an Ethereum contract means there's no middleman who needs to process or sign-off the agreement.

How does a smart contract look in real life?

How do Ethereum smart contracts work - How does a smart contract look in real life

As is the case with many cryptocurrency and blockchain ideas, for everyday people whose brains don't work in code – it's useful to have an real-world example of how an Ethereum smart contract would work.

Let's say Jack owns a web domain and Jill wants to buy it. They decide on a price and agree that the transaction will take place using a cryptocurrency. (Remember, the currency doesn't have to be Ether – the Ethereum network will handle any digital asset or rights to an asset).

So, Jill transfers her money and a digital receipt is created, held in the virtual contract. Jack inputs the access details for the domain by an agreed date – and bingo – the self-executing smart contract recognises that both parties have satisfied the conditions, meaning Jack gets his money – and Jill gets her domain name.

As long as both parties fulfil their end of the deal – the desired result is had by all. If Jack happens to take a fall, bumps his head and forgets to input the domain access details, then Jill is automatically refunded as part of the same contract.

How do you make these ideas happen?

While our example sounds simple enough – neither Jack nor Jill would be able to magically use the Ethereum network to handle their transaction; they're going to need some help in making Ethereum work for them.

That help comes in the form of dApps – or, 'decentralised applications'. dApps are open-source autonomous applications created by programmers - and each must follow a strict set of criteria around how they operate if they want to be adopted by the Ethereum blockchain.

It's through the creation of dApps that Ethereum and smart contracts stand to become a truly world-changing prospect. These are the user-friendly programs that will trigger the creation of smart contracts – whether you're simply hoping to sell your domain name, or you have your eye on decentralising the voting process and revolutionising democracy.

Where does Ether come into all this?

How do Ethereum smart contracts work - Where does Ether come into all this

So, we're spending time telling you all about smart contracts – but there's a good chance you're here at Cryptomonster browsing our coins and considering purchasing Ethereum. So, what's the currency got to do with all this talk of smart contracts and revolution?!

Well, computing power doesn't come for free – in fact, the transactional authorisation process (referred to as 'mining') that's involved with making smart-contracts work over the Ethereum network, is time consuming and reasonably costly when performed at any scale – so Ether acts as a digital fuel that pays for this upkeep of the network. In fact, it's not uncommon for Ether to be referred to as 'gas' or 'digital oil' – depending where you're reading.

Of course, in much the same way you could buy gold without understanding or even caring about how it's found, you can absolutely buy Ether with no interest or knowledge of smart contracts or the Ethereum network that underpins it. Cryptocurrency is such that there's a place for everyone – whether you're an investor, or a world-changing dApp creator.

What's possible for smart contracts?

Ethereum is an exciting prospect. Many people look at smart-contract-based blockchains as a technology that could change our world as much as the internet that made the initial blockchain idea possible.

Might Ethereum revolutionise property law? Could it change the way we protect our data? Might it bring true democracy to the world? Will it herald currently unimaginable automation to our lives as part of the Internet of Things?

Those are questions that only time will answer – but if you want to play even a tiny part in the Ethereum story, our quick and simple ordering service makes it completely hassle-free.

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ETH/GBP £75.68 0.64%
XRP/GBP £0.2651 0.51%
XLM/GBP £0.0971 0.90%
ADA/GBP £0.0336 0.87%
ETC/GBP £3.27 0.84%
BCH/GBP £83.21 -0.01%
QTUM/GBP £1.47 1.51%
LTC/GBP £20.38 0.67%
EOS/GBP £1.68 1.75%
DASH/GBP £56.51 0.75%
ZEC/GBP £46.60 1.29%
GNO/GBP £10.46 -0.21%
PASC/GBP £0.1973 0.41%
BTC/GBP £2,921.61 0.62%
ETH/GBP £75.68 0.64%
XRP/GBP £0.2651 0.51%
XLM/GBP £0.0971 0.90%
ADA/GBP £0.0336 0.87%
ETC/GBP £3.27 0.84%
BCH/GBP £83.21 -0.01%
QTUM/GBP £1.47 1.51%
LTC/GBP £20.38 0.67%
EOS/GBP £1.68 1.75%
DASH/GBP £56.51 0.75%
ZEC/GBP £46.60 1.29%
GNO/GBP £10.46 -0.21%
PASC/GBP £0.1973 0.41%