How Does Smart Contracts Work?

How Does Smart Contracts Work?

Smart contracts are written in many programming languages (including Solidity, Vyper, and Michelson). Each smart contract's code is kept on the Ethereum network's blockchain, allowing any interested participant to view the contract's code and current state to verify its functionality. In addition to the blockchain and transaction data, each computer on the network (or "node") holds a copy of all existing smart contracts and their current state.


This figure depicts key stages in the setup and transaction processing of blockchain-based smart contracts. The first step is to initialise smart contracts. The smart contract must be placed on the network once the terms and conditions have been defined as a software program. To ensure fairness and to meet the primary criteria of blockchain-based smart contracts, the smart contract implemented in each node is identical in all respects.

Transactions are received by the blockchain network from the interfacing apps(APIs). After the transaction is received by the blockchain network, it is checked for numerous requirements. The digital signature is required to verify that the transaction is valid and was initiated by the real network member. Furthermore, certain blockchain networks include platform-specific inspections.

In this stage, the platform checks for double-spending. When a transaction is determined to be valid, it is flagged as verified and the smart contract is executed. A mining node adds the transaction to the block, and the finished block is formed. The verified block is subsequently distributed throughout the network and approved by every node based on the pre-defined consensus rule. The block is attached to the blockchain after the consensus requirement is fulfilled.

Based on their underlying mechanism, a smart contract is most typically a class consisting of state variables, functions, function modifiers, events, and structures that are designed to execute and control important events and activities per the contract rules. It can also call for other smart contracts to be executed (contracts can also deploy other contracts).

Every smart contract has states and functionalities. States are variables that contain data or the wallet address of the owner, i.e., the addresses in which the smart contract is deployed. While functionalities are chunks of code that have the ability to read or alter states. Once the smart contract has been deployed and the returned parameters (e.g., contract address) have been received, users can call any accessible smart contract function by sending a transaction, and a unique hash is generated after every transaction.

History of Smart Contracts

It's quite surprising that the concept of smart contracts emerged in the 1990s, long before Ethereum was created. At that time, Nick Szabo proposed the word "smart contracts," referring to "a set of promises, stated in digital form, including protocols within which the parties fulfil these promises."  

The term was first used in 1998 to identify objects in the rights management service layer of the system The Stanford Infobus, which was part of the Stanford Digital Library Project. They are often compared to vending machines. Vending machines allow a seller to provide a product to a consumer without the requirement for an actual human to collect the money and hand over the item. Smart contracts provide the same function but are far more adaptable.

Smart contracts have come a long way in recent years. They began as basic if-then expressions that any programmer could construct and execute. One of the biggest leaps in smart contract history is the development of Ethereum. Users were able to join the public Ethereum blockchain and deploy smart contract apps on the public blockchain. 

It's not that only Ethereum can use smart contracts, many other networks, including Bitcoin (BTC), also use them. Every BTC transaction is a simplified version of a smart contract, and layer-two solutions like the lightning network have been created to increase the network's capability. However, Ethereum's usage of smart contracts is an exception.

Unlike other blockchain networks, which are defined as distributed ledgers, Ethereum is a distributed state machine that includes the Ethereum Virtual Machine (EVM). This machine state, which all Ethereum nodes agree to retain a copy of, contains smart contract code as well as the regulations that these contracts must follow.