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Smart Contract and Supply Chain Regulation

1/24/2022 Connor Sullivan

With all the hype on block chain and cryptocurrencies over the past year, there has been a renewed focus on how they can address the current supply chain crisis. Smart contracts are computer protocols that facilitate, verify, or enforce the negotiation or performance of a contract, or that make the contractual clause unnecessary. By taking friction out of the process, they have the potential to accelerate transactions and get products into the marketplace faster.

Since a smart contract is blockchain-based and the technology ensures commencement, automatic execution, and termination of civil obligations in cyberspace, a logical first step is to review supply chain regulations and payment options in general.

Determining financial consequences and financial risk through the process of payment are key factors associated with a contract. Due to this, government regulation in many supply chain reliant countries has a large impact in ensuring businesses at all levels are paid within reasonable periods of time. There are four basic models considered to be “Principal Payment Options”:

  • Payment in advance

    • Payment must be made before the supplier performs its obligation

  • Letter of credit

    • Payment is formally guaranteed by a bank

  • Documentary collection

    • Payment is executed through a bank on production on documents;

  • Open accounts

    • Payment is made following performance

Legislation has developed a range of jurisdictions that seek to protect suppliers, given the potential impact of payment being delayed significantly. Regulation has generally looked at providing protection to four groups: government contractors, businesses involved in the construction sector, smaller businesses, and/or businesses generally. For government contractors, the scope of rules applied go beyond government departments themselves. In many cases, these rules are a part of legislation; an example of this being the Miller Act which requires performance and payment bonds for federal construction projects. The United Kingdom, which has a similar system, follows a “Code of Practice” which is supported by declarations of intent by their ministers or other officials. Their policy is that all government sub-contractors are paid within 30 days.

In majority of cases, regulation applies to bilateral contracts. Regulation to a greater or lesser extent will set maximum payment periods; provide for mandatory interest; or outlaw specific provisions. Either one or a combination of those options will occur. There are also complex provisions pertaining to “choice of law” to prevent parties from avoiding the impact of the rules by their selection of the governing law of their contract. If a portion of the supply chain undergoes a constituted regulated relationship or is subject to a regulated jurisdiction, the terms imposed are likely to affect multiple parts of the chain.

Blockchain promises to disrupt the way companies deal with compliance and regulation. As smart contracts are implemented, it will provide suppliers with the speed and flexibility needed to stay alive in the new global digital era. Eventually this technology may allow firms to get rid of all compliance duties and risks, as the regulator would have full access to all the data, instead of having to wait for the firms to send it. The implmentation of blockchain technology creates an environment where market players and regulators have access to a trustable and auditable dataset. We are getting closer to a day when smart contracts are the rule of law and provide a much more transparent, efficient and autonomous supply chain that the existing one. And we need all the help we can get to navigate internationals regulation and make payments easier.


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