Ethereum Smart Contracts Explained – Basic Guide Into The Fundamentals

During the last years, companies and developers started to use Ethereum smart contracts on a daily basis. Both individuals and firms that needed to use smart contracts used the Ethereum network in order to do so. However, not everyone understands how smart contracts work, what they are and how they run on top of Ethereum.

In this guide, we will explain to you in simple lines what Ethereum smart contracts are, the effects they have on the network and how firms and individuals are leveraging their potential. Furthermore, we will explain what is the gas related to running smart contracts, how ERC-20 tokens work, and more.

What are Smart Contracts?

Smart contracts are basically computer programs or protocols that ensure that a contract between parties executes as expected on the terms. In this way, smart contracts can enforce financial transactions, send specific information to users and many other things. These smart contracts run on top of several blockchain networks and Ethereum became one of the largest for doing so.

With Ethereum smart contracts, it is also possible to reduce the costs of traditional contracts that run outside a blockchain network. Moreover, they can also promote the usage of cryptocurrencies and distributed ledger technology.

Ethereum Smart Contracts

Ethereum smart contracts are – as the name already suggests – smart contracts that run on top of the Ethereum network. The Ethereum network was created back in 2015 and it works as an open source and public blockchain that supports smart contracts.

The Ethereum network works with the ETH cryptocurrency, which is currently the second-largest in the world after Bitcoin (BTC). This is certainly important, considering that there are thousands of blockchain networks and digital assets in the market.

One of the main use cases related to Ethereum is related to the fact that it supports smart contracts in a very efficient way. During the last years, several firms and companies leveraged the features provided by Ethereum to write their own smart contracts, protocols and networks.

Smart contracts need Blockchain

Furthermore, it is necessary for smart contracts to use a blockchain where to run on. Moreover, one cannot exist outside a decentralized blockchain network. Ethereum provides the necessary system in order for users and developers to start deploying their smart contracts. This is one of the reasons why Ethereum is now by far the second largest cryptocurrency network in the world.

Ethereum Virtual Machine

By using the Ethereum Virtual Machine (EVM), smart contracts are read and executed in an efficient way. In addition, the nodes on the Ethereum network are working in a decentralized way to run these contracts. All in all, to eventually allow users to run decentralized applications and other programs.

The EVM works with the Bytecode programming language, differing from the Solidity programming language used by developers to create smart contracts. When a smart contract is written, the EVM will translate the code from Solidity to Bytecode and allow the nodes on the network to properly execute the instructions written.

This is why it is certainly important to properly write smart contracts. If they have mistakes, they can produce large and negative side-effects that could damage the entire network and its credibility.

Types of smart contracts

First of all, there are different types of smart contracts that can be used for different things. Indeed, depending on the industry you are working on, you will use different smart contracts. This is great because it does not only offer solutions for financial transactions, but for many other things.

One of the most important types of smart contracts is related to legal contracts. Those contracts can be legally enforceable. Indeed, if there is a dispute due to the fact the contract was broken, the party that broke its contract could face legal issues.

It is worth taking into account that each country has different legal systems and in many cases, there is no clear information regarding how companies can work with them. Thus, this is very important for companies to understand before starting to work with these smart contracts.

Actual Uses Cases are mostly in Finance(DeFi)

To enumerate, financial smart contracts are also very popular in the market. They are used to execute transactions if certain requirements are met. For example, a transaction related to a smart contract can be processed only if all the pre-requisites are fulfilled by the user.

Furthermore, there are application logic contracts (ALC). Additionaly, they work taking into account a larger number of things.  Simply put, if a contract uses controllers and other contracts in order to perform special application tasks, this is an ALC type.

However, there are and could be in the future new use cases for Ethereum smart contracts. This list would certainly expand and grow in the coming years and the market continues to evolve on a daily basis.

ERC-20 tokens

ERC-20 tokens became very popular in the last years, specifically during the 2017 bull run. These are tokens that were created to work on top on the Ethereum platform. Initial Coin Offerings (ICOs) that decided to run their programs and solutions on the Ethereum network created ERC-20 tokens that were later sold in the market.

Nowadays there are dozens of crypto projects that have their tokens running on Ethereum. And yes, they are ERC-20 tokens. As smart contracts expanded and allowed creators and firms to develop their solutions, these ICOs decided to get funded by launching their ERC-20 tokens.

What is Gas and How Does It Work?

Gas is the fee that users have to pay on the Ethereum network every single time that a transaction is processed. Moreover, each time a smart contract is executed, the owner must pay a fee, which is represented in Gas. The Gas fees paid by users represent the computing energy that users need in order to execute transactions.

It is worth noting that the price of the Gas fluctuates as the price of other virtual currencies. This is why it depends on how congested the network is to have an idea of the price users have to pay for gas. The larger the activity on the network, the higher the gas that would be required to execute a smart contract or a transaction.

Back in 2017, there was the hype of CryptoKitties, a massive decentralized application. In particular, this DApp runs on the Ethereum blockchain and was consuming lots of resources from the network. As a result, the price of Gas was pushed to very high levels and even slowed-down network transactions. Moreover, transactions on the Ethereum network could take several hours to be processed.

This can be compared to the fees that users pay on other Proof-of-Work (PoW) networks such as Bitcoin (BTC) or Litecoin (LTC). You need to know that if you have a decentralized application, you will have to pay gas for each Ethereum smart contract that is executed. Finally, the price of gas will be determined by miners in the network.

Conclusion

In general, the Ethereum network expanded as a complex and innovative solution for many individuals. Also, Ethereum smart contracts became very popular to run ICOs, transactions and more. Nowadays, the decentralized finance (DeFi) market is growing thanks to Ethereum smart contracts and companies leveraging Ethereum’s potential.