AI and Smart Contracts: Contract Law and challenges faced

Introduction

Convergence of Artificial Intelligence and Smart Contracts has emerged as a transformative force, changing the traditional paradigms of commerce and legal frameworks, in an evolving landscape of India’s technological progress. Fusion of these cutting-edge technologies offers enormous promise, offering unprecedented efficiency, transparency, and innovation in a wide range of sectors. However, the key element of this transformation journey is to navigate the challenges posed by integrating artificial intelligence and smart contracts into India’s digital age.

The rapid adoption of artificial intelligence, machine learning, natural language processing and data analysis for simulating human cognitive functions is a major factor in India’s technological renaissance. At the same time, a new era of trust in business transactions has been ushered in by smart contracts and self-executing agreements which contain coded terms and conditions. In the context of India, this blog aims at exploring in detail how AI and smart contracts have transformed business landscape.

It is nothing short of revolutionary to think about the potential impact of artificial intelligence and smart contracts in India. These technologies, in the areas of finance, health care and commercial property, are expected to simplify operations, minimise errors and improve overall productivity. The convergence of artificial intelligence and smart contracts paves the way for faster, more secure transactions that are less costly.

But there are still problems with this technological utopia. India wrestles with a series of issues that could hinder the rapid integration of Artificial Intelligence and Smart Contracts into mainstream business practices.

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What are smart contracts?

Nick Szabo brought the concept of intelligent contracts to light in 1994.[1] These contracts, Szabo envisaged, were computer protocols capable of facilitating, verifying, and enforcing the negotiation or execution of a contract. The terms and conditions agreed between the parties shall be laid down in sensible contracts, which are to be drafted in programming languages.[2]The fact that they operate autonomously is one of the most important characteristics of smart contracts. The contract shall automatically execute the associated actions or transactions without requiring human intervention as soon as the predefined conditions laid down in the contract have been fulfilled. This feature shall ensure that contractual obligations are complied with as soon as possible and accurately.

Smart contracts are digital agreements that function on their own and can be enforced by computer codes.[3] They are designed to reduce the need for intermediaries, such as lawyers or other trusted third parties, to facilitate contract execution. Smart contracts, which provide a decentralised and secure environment for their execution, operate on blockchain platforms.

It should be noted that smart contracts are not appropriate for all types of contracts. In scenarios where there are clear and objective conditions, e.g. payment transfers, supply chain management or IPR licensing, they will be best suited to achieve them. Traditional contract arrangements may continue to be required for complex contracts requiring emotional interpretation or human judgement.

AI in contract law

Artificial intelligence is playing an increasingly important role in the field of contract law, revolutionizing the various aspects of contract management, analysis, and drafting. Advanced capabilities for streamlining and enhancing the conventional contract processes are offered by artificial intelligence technologies such as machine learning and natural language processing.[4] Contract management is one area where AI has proven its potential. Contract workflows, such as the creation of contracts, negotiation, and monitoring, can be automated and optimized by an AI enabled contract management system. These systems, which allow for effective management of contracts and risk assessments, are based on machine learned algorithms to analyse huge volumes of contracts and retrieve key information.

Artificial intelligence can analyse and interpret natural language, which enables it to obtain valuable information on contracts. Natural language processing algorithms can extract provisions, clauses, and obligations from contracts and categorize them for easier reference and analysis. This capability allows legal practitioners to quickly search, compare, and review the terms of the contract, saving time and improving the accuracy of the interpretation of the contract.

In addition, the drafting of contracts can be helped by artificial intelligence technologies. Artificial Intelligence Contract drafting tools, which can generate standardised clauses, templates, and customized provisions based onredrafted rules and guidelines, may be helpful for lawyers in negotiating contracts.[5] Quality checks may also be carried out with these tools to ensure that contracts are in conformity with the law and reduce the risk of error or omission.In addition, the analysis of contracts and due diligence processes can be supported by artificial intelligence. With the use of machine learning algorithms, AI can review contracts for potential risks, inconsistencies, or failure to comply with legal requirements. This technology can help to identify potential risks and provide advice on mitigating them, allowing legal practitioners to make more informed decisions.[6]

However, it is important to note that AI is not infallible and may have limitations. The quality and relevance of the data to be exploited for training, as well as the complexity of the legal environment under examination, determine the accuracy and efficiency of artificial intelligence algorithms.[7] To ensure the proper use and interpretation of AI generated insights, human oversight and legal expertise remain essential.Ethical considerations are also raised in the application of AI to contractual law. In the area of contract formation, negotiation and enforcement, bias in AI algorithms may lead to existing inequalities or discriminatory practices that are not properly addressed. To maintain trust and to respect the principles of contract law, it is essential to ensure fairness and accountability in artificial intelligence systems.

By automating processes, improving efficiency, and providing valuable insights, AI technologies offer a transforming potential in contract law. The use of artificial intelligence in the management, analysis and drafting of contracts can give legal professionals an opportunity to improve their job efficiency and make more informed decisions. Ethical considerations and the limitations of artificial intelligence to ensure its responsibility and efficient integration into contract law practices should nevertheless be carefully considered.

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What is the legal perspective of AI-powered smart contracts in India?

In essence, smart contracts provide a framework for negotiating with parties who may or may not know each other and may also be responsible for risks. While smart contracts are binding under Indian law, since the legal system does not have an extensive framework for regulation of smart contracts, it is necessary to pay penalties in respect of failed transactions even if care has been taken when entering a contract with another party.In certain circumstances, if the consideration for the contract is not reciprocal, a smart contract may be null and void under Indian law.[8] If the contract is unilateral, it is possible to do so.[9] However, smart contracts that lack mutual consideration are still enforced via code.However, in the Indian courts, a breach of such a contract would not be regarded as a breach, as the court would have concluded that there had been no contract in the first place because of a lack of mutual respect, a fundamental element of the contract.[10]

The legality of smart contracts in India allows their use, but does not provide legal protection to the parties to the smart contract who are liable or injured. As smart contracts do not have a regulatory framework in place, this legislation will assist to ensure that they fall within the scope of contractual law.

What are the challenges faced with respect to AI and smart contracts?

Offer and Acceptance: When a valid offer is absolutely accepted, an agreement is formed between the parties. The contract becomes a contract when such an agreement is supported by law intent.[11] The Indian Contract Act of 1872 applies to artificial intelligence systems which only act in the name of a man’s principal. In the present case, AI software merely acts as a medium of contract, in the same way as e.g. e. contracts where agreement is reached between the parties and the Internet is merely a means of implementing the contract. It concerns the use of an autonomous artificial intelligence system for the purpose of establishing a contract. Can this offer or acceptance be considered valid if the AI system makes an offer or accepts an offer on behalf of the organisation, without the organisation having any knowledge of the exact content of such a contract? The foundations of the Indian Contract Act, 1872, can be altered by autonomous AI based contracts.[12]

Legal Intentionality: Human beings can form intentions; intentions lead to action. Human beings are also presumed to enter a contract based on an intention to share a goal under the contract law. Legal intentionality is needed for this objective to be legally binding. Legal intentionality is recognized by our Contract Act thus giving rise to legal obligations in the form of contractual performance.[13] There is no ability to establish an intent in contracts drawn up by AI. Only then can the legal intention of the principal be regarded as a valid element for the purpose of entering a contract if AI is treated as an agent acting on behalf of the principal. Intentionality ensures a meeting of minds, but what constitutes a meeting of minds when two AIs are individually contracting?[14]

Data protection and privacy:Sensitive personal information is often processed and stored in smart contracts and artificial intelligence systems used in contract law. To protect the rights of individuals and prevent unauthorised access or misuse of personal data, it is essential that they comply with legislation on data protection and privacy such as the Personal Data Protection Bill 2019, which has come into force in 2020.[15]

Liability and accountability: The use of artificial intelligence in contract law raises the issue of liability and accountability for decisions or errors resulting from it. Legal clarity is needed to determine responsibility for the creation of contract terms, recommendations, or autonomous action by artificial intelligence systems. There is a need to develop guidelines or legislation setting out how liability for artificial intelligence systems, developers and users should be allocated.

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Conclusion

Finally, the Indian business and technology landscape is set to change radically because of combining artificial intelligence with smart contracts. These innovations are not just trends, but powerful catalysts of efficiency, transparency, and security as we navigate the complex web of possibilities and challenges. The integration of artificial intelligence and smart contracts has the potential to simplify legal procedures, increase trust in transactions which could drive India towards a new era of prosperity. However, regulatory frameworks and ethical considerations must be addressed to ensure an inclusive and responsible adoption of this development. The journey ahead holds immense promise, and as India navigates this dynamic intersection of technology and law, it stands on the brink of a digital transformation that could redefine the way we do business and shape our collective future.

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This article is authored by Ms. Muskan Deora, student at Institute of Law Nirma University

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[1]Makam Ganesh Kumar , The Impact of Smart Contracts and AI on Traditional Contract Law in India, 6 (3) IJLMH Page 3011 – 3024 (2023), DOI: https://doij.org/10.10000/IJLMH.115229

[2]https://www.ijlmh.com/wp-content/uploads/The-Impact-of-Smart-Contracts-and-AI-on-Traditional-Contract-Law-in-India.pdf

[3]https://www.ijlmh.com/wp-content/uploads/The-Impact-of-Smart-Contracts-and-AI-on-Traditional-Contract-Law-in-India.pdf

[4]Makam Ganesh Kumar , The Impact of Smart Contracts and AI on Traditional Contract Law in India, 6 (3) IJLMH Page 3011 – 3024 (2023), DOI: https://doij.org/10.10000/IJLMH.115229

[5]Makam Ganesh Kumar , The Impact of Smart Contracts and AI on Traditional Contract Law in India, 6 (3) IJLMH Page 3011 – 3024 (2023), DOI: https://doij.org/10.10000/IJLMH.115229

[6]ibid

[7]ibid

[8]https://www.mondaq.com/india/contracts-and-commercial-law/874892/the-enforceability-of-smart-contracts-in-india

[9]ibid

[10]https://blog.ipleaders.in/future-ai-blockchain-powered-smart-contracts-indian-legal-system/#Examining_the_Indian_scenario_for_smart_contracts

[11]Section 2(h) in The Indian Contract Act, 1872

[12]Martin Ebers, ‘Artificial Intelligence, Contracting and Contract Law: An Introduction’ in Martin Ebers, Cristina Poncio, and Mimi Zou (eds), Contracting and Contract law in the age of Artificial Intelligence (2022)

[13]Kinaari Solanki, ‘Artificial Intelligence In Contract Law’,JLRJSVOL. 2 ISSUE 3

[14]John Linarelli, ‘A Philosophy of Contract Law for Artificial Intelligence: Shared Intentionality’ in Martin Ebers, Cristina Poncio, and Mimi Zou (eds), Contracting and Contract law in the age of Artificial Intelligence (2022)

[15]Personal Data Protection Bill, 2019, No. 373, Bills of Parliament, 2019 (India).