Smart contracts vs incomplete contracts: A transaction cost economics viewpoint

Smart contracts (i.e., agreements enforced by a blockchain) are supposed to work at lower transaction costs than traditional (and incomplete) contracts that instead exploit a costly legal enforcement. This paper challenges that claim. I argue that because of the need for adaptation to mutable and unpredictable occurrences (a chief challenge of transaction cost economics a la Oliver Williamson), smart contracts may incur higher transaction costs than traditional contracts. This paper focuses on two problems related to the adaptation: first, smart contracts are constructed to limit and potentially avoid any ex-post legal intervention, including efficiency-enhancing adaptation by courts. Second, the consensus mechanism on which every smart contract depends may lead to additional transaction costs due to a majority-driven adaptation of the blockchain that follows Mancur Olson's Logic of groups. The paper further proposes several institutional expedients that may reduce these transaction costs of smart contracts. (C) 2022 Massimiliano Vatiero. Published by Elsevier Ltd. All rights reserved.

Automated summary

This paper challenges the claim that smart contracts have lower transaction costs than traditional contracts enforced by legal mechanisms. The author argues that due to the need for adaptation and the consensus mechanism, smart contracts may actually have higher transaction costs. The paper proposes institutional measures to reduce these costs.