Blockchain: can the law keep up?

Background

Most commonly known as the technology behind Bitcoin, blockchain is an anonymous public distributed ledger of digital events. It constantly grows as “completed” blocks are added to it with a new set of records. The blocks each contain a timestamp and other transaction data. Each block is added to the blockchain in a linear, chronological order with a link to the previous block.

Each node (i.e. computer connected to the relevant network) receives a copy of the blockchain, which is downloaded automatically upon joining. The blockchain has complete information about the recordings from the original block to the most recently completed block.

The ledger is not under any single control and operates by consensus. As the blockchain is managed by peer-to-peer networks and always contains a timestamp, a blockchain is extremely secure and unchangeable by design. The record kept on a block is therefore almost permanent by nature as a change in data in a block would require consensus of the network.

Relationship to other ideas

Blockchain technology has the potential to unleash a multitude of new applications. The concept of decentralisation is fundamental – the blockchain is not held and controlled by a single being or organisation. This enables the ability to move away from a traditional centralised exchange of value (whether that value be currency, rights, data, energy or another asset) or a central record of information and sees individuals moving towards peer-to-peer exchanges of value. This results in less reliance on a ‘middle-man’ institution such as a bank or government.

Trust, transparency and security of information are all considered benefits of using blockchain, whether for an organisation’s own record keeping or more widely due to the creation of a real-time digital record of the relevant events.

Sectors and areas of impact 

Retail

Taking the food and beverage subsector as an example, blockchain can enable a constantly updating ledger of products and ingredients from source to store. This would ensure quality and freshness of produce, reduce the time it takes to track down the source of contaminated food and accurately track locations and shipping. The same concept can be applied to tracking materials across the world. This can also be used for a number of businesses to see each other’s data in real-time and is a significant modernisation of the traditional supply chain.

Payment methods and processes may need to be adapted to receive cryptocurrencies. The general trend shows an increasing demand for Bitcoin which suggests that more customers may wish to use this as a payment method. We should not only consider Bitcoin here, but also other cryptocurrencies and so-called cryptofuels which are becoming more prevalent. There are different legal and commercial considerations with each.

Energy

Start-up companies in the energy sector are already putting blockchain technology into action to enable peer-to-peer buyer and selling of energy with supply contracts being made directly between energy producers and energy consumers. This decentralised system will be of particular interest to households who both consume and produce energy (e.g. through solar panels or wind turbines) as they could contract directly with neighbours and have in place a supply contract which is carried out automatically.

Once again this removes the ‘middle man’, in this case the energy company. This creates a challenge for the energy regulatory framework as energy might no longer be bought and sold solely through regulated energy companies. It is likely that the technology will also be applied to the metering, billing and clearing processes as well as proof of ownership, records of energy certificates and emission allowances.

Fintech

Having intentionally avoided too much discussion around Bitcoin and other cryptocurrencies as they merit a full article of their own, it should be noted that the financial sector has shown significant interest in blockchain and the opportunities for fintech development. 

Smart Contracts

Smart contracts are, in essence, a computer program code that can facilitate, execute and enforce the terms of an agreement to ensure performance. It is an automated, programmable transaction and therefore quite different to a traditional legal contract. The aim is to reduce and eliminate paperwork but it also results in a self-executing “contract” without human intervention. The basic theory being: “if option X happens, then option Y must occur”.

It has been discussed whether these are genuine legal contracts as we understand them today, or whether it is more correct to refer to a smart contract as something else. One suggestion has been a “dynamic transaction”. The enforceability of smart contracts must be treated differently to traditional contractual arrangements as they may not possess the legal elements required to create a binding contract. Further, it may not be possible for the complexities and nuances of contract law to be fully reflected.

Legal Considerations

The legal implications of a disruptive technology such as blockchain vary as the technology is applied to different sectors and applications. Some of the key considerations are as follows:

Jurisdiction

Distributed ledger technology is, just as described, distributed. There is no fixed location of a transaction, a registry or an application. It is therefore critical that the parties to any arrangement involving this technology have expressly agreed and recorded the jurisdiction and governing law which is to apply to the arrangement. Some jurisdictions are starting to address the legal and regulatory matters around blockchain (cryptocurrencies in particular, including where these start trading on a regulated market).

Risk

Contractual and legal issues must be seen from a different angle with blockchain technologies. How are service levels and performance defined? What is the liability position? In particular, the enforceability of an arrangement involving blockchain should be considered carefully.

Accountability

Decentralised Autonomous Organisations (DAOs) may be involved. This is a program running on a peer-to-peer network which will have a set of governance and decision-making rules and will run autonomously from humans. If a DAO is involved in an arrangement, accountability may become an issue. If there is no human or traditional corporate entity behind the network then is anyone accountable for the autonomous actions of the network organisation if there is an error or breach? Further, who should be regulated?

Security

It is generally understood that the nature of the technology makes it difficult to create fraudulent entries or to modify the data contained on a block. Instead of using a username and password design, it utilises encryption technologies which generate private and public keys to secure the digital assets (whether they be contracts, personal documents, cryptocurrencies or something else). Hacks and theft of cryptocurrencies are not entirely unheard of. However, given the additional security when compared with traditional systems, we are likely to see more banks and registries using their own blockchain to maintain secure record-keeping.

For more information, pleae contact Tanya on +44 (0)20 7203 5058 or at Tanya.Wilkie@crsblaw.com.