A Unified Theory of Code-Connected Contracts.

• Author: Reyes, Carla L.

1. INTRODUCTION 982 II. THE MANY VARIATIONS OF CODE-CONNECTED CONTRACTS 984 A. Earlier Forms of Code-Connected Contracts 985 B. Today's Code-Connected Contracts: Smart Contracts 987 C Newer Inquires in Light of Industry Developments 991 III. UNIFYING CODE-CONNECTED CONTRACT VARIATIONS ALONG AN AXIS OF STATE TRANSITION COMPLEXITY 991 A. Some Code is Better Suited to Handle Complex State Transitions 992 B. Some Contracts are More State Dependent Than Other Contracts 993 C The State Transition Complexity Theory of Code-Connected Contracts 995 IV. LESSONS FROM THE STATE TRANSITION COMPLEXITY THEORY FOR THE INTERSECTION OF EMERGING TECHNOLOGY AND LAW 997 A. Among Code-Connected Contracts, Smart Contracts Are Not Exceptional 997 B. Core Lessons at the Intersection of Code-Connected Contracts and the Law 999 V. CONCLUSION 1000 I. INTRODUCTION

   The current hype-cycle around smart contracts encourages us to believe that contract law as we know it will soon end. (1) Marketers, code developers, and legal scholars alike see the potential for smart contracts to usher in a new era of perfect, automatic enforcement of contractual obligations. (2) Several legal scholars attempt to bring order to some of the hype-fed frenzy around smart contracts by placing them in the context of a longer history of computable contracting. (3) According to this line of thinking, blockchain-based smart contracts simply represent the next technological advancement in a long chronology of computable contracting technologies. (4) However, other scholarly work relating to the perceived drawbacks of using smart contracts in the context of relational contracting suggests that such a chronological explanation under-simplifies the nature of the linkages between smart contracts and other forms of code-connected contracts. (5) The lack of a unifying theory of code-connected contracts inflames the hype-cycle, obscures the true usefulness of smart contracts, confuses lawyers, and sows seeds of concern among legislatures and courts regarding existing law's ability to properly address any potential exceptional qualities of smart contracts. Instead of feeding the hype cycle by examining the legal enforceability of smart contracts under certain circumstances, lawyers should examine, first and foremost, the social context within which smart contracts reside.

   All technology is social technology; (6) all technology is created, used, and applied within a broader social context. (7) Law is a technology. (8) Thus, law is a social technology-it is created, used, and applied within a broader social context. Contracts, as a sub-system of law, (9) therefore, represent a technology within a technology--they offer a tool for privately ordering the rules applicable to a specific social context, the transaction between the parties. (10) Code-connected contracts may layer another level of technology onto the legal technology stack for private ordering, but they continue to represent functional equivalents (11) to their low-tech contract counterparts. Unpacking that functional equivalence enables more efficient use and interpretation of code-connected contracts and prevents the law from absorbing the technology hype-cycle and related misunderstandings.

   This Article argues that the key to unpacking the functional equivalence between code-connected contracts and their traditional paper counterparts lies in understanding the linkages between approaches to risk mitigation in the traditional contract context and the management of state changes by code-connected contracts. In particular, this Article offers a theory of state transition complexity as a way to bridge the gap between technologists and lawyers in their understanding of different types of code-connected contracts and the trade-offs between computational contracting and traditional methods of contracting.

   This Article unpacks the state transition complexity theory in three parts. Part I examines many of the variations of code-connected contracts and describes their treatment in the legal literature, pointing out that both the unrelenting focus on legal enforceability and the insistence on organizing different code-connected contracts along a time linear progression undertheorizes the role of smart contracts in use today. Indeed, these two emphases in the literature leave those using smart contracts--whether as part of a legally enforceable contract or as part of their products and services--without an analytical tool to help them assess the legal and business risks attendant to their activities. Part II attempts to reorient the discussion toward an analytical tool the legal field can use in conversation with those building code-connected contract systems by organizing the variations of code-connected contracts along an axis of state transition complexity. Part II argues that the state transition complexity theory of code-connected contracts reveals whether and how code-in the form of smart contracts, data-oriented or computable contract terms, or algorithms-serves as a functional equivalent to elements of traditional contracts. Perhaps more importantly, even, the state transition complexity theory makes clear where the code is not intended to serve a legally enforceable contract related function at all. Part III argues that when viewed through the lens of the state transition complexity theory, code-connected contracts are not terribly exceptional. Indeed, each time a new technological tool that might be used in code-connected contracts becomes available there is an industry-wide reconsideration of the same contract law questions from earlier iterations of the technology. Instead, the state transition complexity theory reorients the focus from the detailed elements of contract doctrine toward bigger lessons for lawyers operating at the intersection of law and emerging technologies.

2. THE MANY VARIATIONS OF CODE-CONNECTED CONTRACTS

   Although the legal frenzy around smart contracts leads many to think otherwise, the term "smart contract" is not a new invention of the blockchain-age. Rather, Nick Szabo first introduced the concept of smart contracts in 1994. (12) Szabo's work contributed to long-standing discussions related to connecting contracts to code--making contracts computational. Scholars tend to use this history of code-connected contracts to argue that the contract law issues for smart contracts are not that different from other forms of electronic contracting. They also use the history of code-connected contracts to bring order around the technology by offering a time linear history of the many forms of electronic contracts. This Part briefly reviews computational law and the place code-connected contracts occupy in that field. It then provides a (very brief) primer on smart contracts (both in Szabo's sense and the blockchain-based smart contract sense) and concludes by highlighting some future trends in code-connected contracting. In its review of the code-connected contracting landscape, this section highlights several important lessons. First, although many assume parties use smart contracts in place of traditional contracts, many simply use smart contracts to achieve more efficient performance of traditional contractual obligations. Moreover, putting smart contracts into a timeline of technology developments does not help lawyers or clients assess which of the many variations of code-connected contracts might be most useful to adopt in light of business and legal risk considerations. Lastly, the lawyerly emphasis on the inflexibility of smart contracts is misplaced, particularly in light of the expected trajectory of the technology.

   1. Earlier Forms of Code-Connected Contracts

      A look at the historical development of law, from Greek and Roman law all the way up to the common law, reveals an intricate and longstanding relationship between the development of law and technology. (13) With the advent of modern computer science, scholars began exploring the ability to code legal systems and legal sub-systems. (14) This exploration led to the field of computational law. (15) Computational law, generally speaking, seeks to enable the application of computational techniques to law by representing law in formal logic. (16) The ultimate goal is to predict the consequences of law when it is applied to specific facts. (17) Interest in computational law stems from interest in enabling narrower legal rules, decreasing costs, and reducing risks. (18) Computational contracting occupies a unique place in the broader computational legal field as one of the longest standing branches of computational law. (19) Indeed, computational contracting, including through smart contracts, continues to capture legal academic interest. (20) Computational contracting assumedly suffers from two significant barriers preventing advancement and adoption: adjudication and language. (21)

      In a leading article considering the problems of adjudication and language, Professor Harry Surden examined the potential for what he termed data-oriented and computable contracts. (22) As defined by Professor Surden, a data-oriented contract is one in which the parties "express[] some part of their contractual arrangement as computer-processable data." (23) Meanwhile, a computable contract exists when the parties have arranged for a computer to make automated, prima-facie assessments about compliance or performance. (24) Surden argued that data-oriented and computable contracts act as a form of legal transplant of contract law into code. (25) Namely, as the code reduces transaction costs by fulfilling the role of some law, then the effective scope of the law may change. (26) The effect of those changes may be beneficial, according to Surden, so long as parties elect the use of data-oriented and computable contracts with an understanding that they make a contractual design trade-off: receiving ex ante certainty in exchange for a measurable loss in ex...