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Should Start-ups Utilize the Blockchain Over Deal Lawyers?

In the current model of American commerce, business attorneys are uniquely situated between firms and opposing parties. A great deal of an attorney’s utility comes from her experience with deals and position as a utility player. But have we considered how recent innovations potentially threaten this traditional model?

Blockchain is the generic name for the technology underpinning Bitcoin, the world’s most notorious cryptocurrency. It is a distributed public ledger system. Transactions are recorded on a comprehensive and always up-to-date public register that every bitcoin enthusiast can download and verify. Those familiar with cryptocurrency know that not even a single tangible bitcoin exists. Rather, “possession” of bitcoin is determined by a continuous barrage of 1s and 0s revolving around a common ledger. That’s about all one needs to know about bitcoin to understand how the blockchain could be applied to transactions generally.

Smart Contracts are another potential implementation of blockchain technology in addition to cryptocurrency. Blockchain software code can represents an arrangement or contract. The computer can make and execute automatically under conditions set in advance. It doesn’t end there — the system could execute bundles of agreements, all linked to each other, operating autonomously and automatically. The vanilla version requires that all the links in a contractual chain need to execute. For simplicity, I’ll focus on a simple one step transaction between a buyer and seller.

A case study for how this could work in practice is to look at Amazon smart lockers. When a consumer on Amazon’s retail store purchase an item and elects to utilize a smart locker, the item is shipped to a predetermined location — the locker — and the customer arrives, verifies his identity and takes possession of the good. The consumer experience could be identical with the blockchain. Rather than rows of computer hardware running Amazon’s web services, the decentralized ledger system could run a near constant accounting of who has paid for certain goods and services. For example, consider if the local ice cream maker needs to make monthly purchases of dairy from the dairy farmer several counties away. The ice cream maker can avoid the time spent physically contacted the farmer or an agent of the farmer every month to verify the deal is still on. Also, the ice cream maker could avoid any risk that the farmer could not deliver.

An example of how this could play out is like the Amazon smart locker solution. Consider the farmer usually delivers dairy to a group of merchants in Washtenaw County. Rather than verify every transaction, the farmer could arrange for a neutral site to store the commercial dairy. That site could be outfitted with locks connected to their own private blockchain. Once the farmer’s bank receives payment for the dairy it could send a digital receipt back to the merchant; this key would then unlock the merchant’s unique locker when she presented identification at the locker.

This is a simplified example and the point of service could look a lot different whether the solution is taken up by private companies like Amazon or municipalities consider operating their own blockchain infrastructure. The point is to consider where do lawyers fit into all of this? According to Jeff Garzik, co-Founder at Bloq, a blockchain services startue: none at all. “Smart contracts … guarantee a very, very specific set of outcomes,” he observed. “There’s never any confusion and there’s never any need for litigation. It’s simply a very limited, computer-guaranteed set of outcomes.” Mr. Garzik is undoubtedly discounting the propensity for things to go wrong in a deal, but there may be some potential for this to be the reality. It merits attention from the legal profession and law schools.

For low level, standardized agreements (like purchasing from a dairy farmer) the lawyer’s role would likely be one of overseeing the system and arbitrating any disagreements that may arise. This may require a baseline understanding of the technology in addition to solid understanding of commercial law.

The upshot: the end may not come swiftly. While this may eventually lead to a long run decrease in the demand for legal services for some types of transactions, it’s important to note that this is part of a longer trend of technology reducing transaction costs. Qualified lawyers will always be able to provide intangible services like effective counseling and guidance to small businesses. That will remain indispensable despite any foreseeable technologic advances. Corporate attorneys command high fees for the work they do with very sophisticated parties crafting bespoke agreements. At the low end, some contracts have been becoming more standardized, a la Legal Zoom. But nothing about smart contracts in its current form presents an issue for transactions driven by complexity.

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Possibilities for Blockchain and the Legal Implications

FrankieRufinBlogPicBlockchain technology is a new way of establishing trust in the presence of unreliable parties. Although it owes its current celebrity to Bitcoin, the cryptographic power of blockchain can be harnessed in a variety of different ways, making it capable of revolutionizing a lot more than just how we do business. Along with these new possibilities, however, new complex legal issues are expected to arise.

What is blockchain technology?

Blockchain is best known as the underlying technology that makes Bitcoin possible. Bitcoin’s system of transactions is decentralized, meaning that no central authority tracks, approves, or secures transactions made on the Bitcoin network. Instead, Bitcoin relies on blockchain technology—rooted in cryptography—to achieve a secure and usable system.

For those new to blockchain technology, it is essentially a decentralized public ledger of transactions that works as follows:

  • When a user initiates a new transaction, the transaction is grouped with others into “blocks” and consistently added to the ledger.
  • The blocks are then redundantly verified by the distributed computing power of the users connected to the network and added to the “block chain.”
  • A unique cryptographic “hash” identifies all blocks and transactions and permanently fixes them in chronological order, making it virtually impossible to modify past transactions in the chain.

The result is “trustless” system of transferring assets with no need for a central processor. Every payment is recorded and verifiable by anyone who accesses the public blockchain.

Blockchain is the next big thing.

Blockchain technology is not limited to transfers of virtual currencies. It has far-reaching potential in a wide variety of industries and applications. In brief, blockchain technology makes it possible for a community to manage something that previously required a centralized authority.

A growing number of organizations are beginning to use blockchain technology to build infrastructure to support decentralized peer-to-peer applications, while others are attempting to create decentralized versions of existing internet applications. From regulatory reporting to derivatives settlement, blockchain technology can be utilized to revolutionize many key service industry sectors, yielding increased consumer power, greater personal data ownership, and reduced transaction costs over the long term.

Legal Implications.

Thus far, regulators and enforcement agencies have focused on the legal issues surrounding the use of virtual currencies in financial transactions. However, the legal landscape gets markedly more complicated when discussing the broad applications of blockchain technology.

As outlined in a recent Bloomberg BNA Banking Report, anticipated legal issues include—but are not limited to—the following:

  • Utilizing blockchain in the context of intellectual property would necessitate a doctrinal and legislative shift, as current IP licensing law is based on contractual relationships between parties, not on transferable property rights that could be sold later on.
  • In the storage of identity information, legal implications could include privacy concerns and whether a right to privacy would even exist in such applications.
  • The use of smart contracts raises several legal concerns. For instance, the automatically enforcing nature of smart contracts would make it difficult to apply some classic contract doctrines (ex. voiding a contract due to coercion), and the contracts may be programmed to be impossible to breach, even efficiently. In addition, these interactions would carry privacy concerns, as contracts between parties would be publicly viewable in the ledger.
  • Advanced applications of smart contracts would allow for the existence of decentralized organizations, raising issues of liability and ultimate responsibility. Legal systems would have to determine who to hold responsible if laws are broken, as “management” is conducted automatically. Further, it is possible that existing legal frameworks relating to corporations and other business entities are insufficient, and that new regulations would need to be developed.
  • Blockchain can accomplish escrow services utilizing “multi-signature transactions” although the arbiter in the transaction does not actually take possession of the virtual asset.  Because existing legal frameworks are designed to regulate escrow agents who assume full control of an asset, they may prove to be incompatible.
  • Attempts to offer securities and financial products are likely to increasingly implicate securities laws.

We have already seen virtual currency ‘rock the boat’ and swiftly prompt significant legal and regulatory change. With the potential applications of blockchain technology—capable of completely revolutionizing the way we interact and exchange information and value—we can reasonably expect momentous changes to our legal framework.