Despite all the heartache in crypto this year, the silver lining is that it’s shown both the need for DeFi and the resilience of the technology. Prior to the development of smart contracts, DeFi was a distant dream. Now, however, protocols can be coded to work without relying on human input or oversight.
The central tenet of smart contract technology is that code is law. This is also a fundamental aspect of crypto in general and is the only way to truly decentralize a platform or protocol.
Whilst DAOs, or Decentralized Autonomous Organizations, decentralize the governance aspect of protocols, the actual day-to-day operations need to be coded into them. The process of submitting a proposal through to voting on it and implementing it is too laborious to be done for anything other than major changes.
Additionally, there are still many questions about the safety of DAO governance. Issues such as protecting the protocol’s integrity from dangerous or negligent decisions are still unresolved. There is also uncertainty about how to prevent whales from controlling the majority of votes and pushing through their own agendas.
Smart contracts’ revolutionary aspect is that they automatically allow decisions to be designed into their operating processes. This enables exchanges such as Uniswap and Minswap to operate without any central entity being able to control users’ assets.
An exchange is referred to as a market maker, because they enable people to buy and sell tokens, thus creating a market. In the case of exchanges such as FTX, they’re centrally controlled, so users have to deposit their funds into an account owned and controlled by the exchange. The exchange uses these funds to provide liquidity so that the market can function.
Decentralized exchanges such as Uniswap and Minswap are known as Automated Market Makers or AMMs. This is because users deposit their funds into liquidity pools to enable the market to function and in return, they receive a part of every transaction as a reward or incentive.
The key ingredients to ensure that AMMs can work are smart contracts. These remove the need for a third party, or intermediary, and enable individuals to trade freely with each other. They are the closest thing to a pure free market economy that exists in this world and crucially they enable people to keep the keys to their own crypto.
The reason for the catastrophic failure of FTX is that users no longer held the keys for their crypto, so FTX could do whatever it wanted with it. This is also the case with other major collapses that locked up users’ assets. They all prove the adage, not your keys, not your crypto.
By locking your crypto into a smart contract you still retain the keys and ultimate control of your assets. There may be slash penalties coded into a contract if you leave early or with no notice, however, you can always retain sovereignty over what happens with your crypto.
Although they’re revolutionary, smart contracts are not without their own pitfalls and drawbacks. One perennial gripe about smart contracts on the Ethereum network is the gas fees. Because they require more processing power than a simple transfer of assets between wallets they cost more to process.
Another potential issue with smart contracts is their susceptibility to hacking. As with any technology, it’s always a cat-and-mouse game between hackers and developers. Whenever a new vulnerability or exploit is discovered it’s usually patched quickly. However, if hackers find the vulnerability first it usually results in assets being drained or stolen from the contracts.
Nothing is ever 100% secure and there have been cases of people losing all the assets in their wallets by interacting with smart contracts created by scammers. That’s why you should always be careful about what you interact with and only trust contracts that have been audited and are routinely checked.
One of the major strengths of Paribus is that both our CTO, Simon, and our CEO, Deniz have extensive experience in bug bounty programs. This is why we partnered with ImmuneFi to run our own bug bounty program. Although we already had our code checked by Hacken, security is an ongoing process. So far the program has brought some additional vulnerabilities to our attention and the developers are rapidly resolving the problems.
While risk is always involved in any financial transaction, smart contracts massively reduce it by removing human frailties from the equation. Any contract can be checked before you choose to engage with it, and most importantly you get to keep your keys. Compared with trusting someone you don’t know such as Sam Bankman-Fried not to run off with your money, we believe smart contracts are the key to a truly decentralized future.
