Ethereum blockchain expands the concept of a distributed ledger to allow for more advanced commands.
Ethereum can be perceived as a virtual computer made out of blockchain nodes, with every command being confirmed by the entire machine and saved to its public ledger. Unlike Bitcoin blocks, Ethereum data blocks can hold more than just transaction information and can function as autonomous contracts.
Users can build “smart contracts” on the Ethereum blockchain by creating a transaction without a destination address and containing a section of code to determine what it does. Smart contracts can:
- Function as ‘multi-signature’ accounts, so that funds are spent only when a required percentage of people agree
- Manage agreements between users, say, if one buys insurance from the other
- Provide utility to other contracts (similar to how a software library works)
- Store information about an application, such as domain registration information or membership records.
By using the power of Smart Contract, Bancor created “Smart Tokens” as the new standard for crypto liquidity. Smart Tokens are “smart” because the smart contracts governing them requires one or more pre-existing tokens be held by the smart token’s smart contract. By holding an easily exchangeable token in connector tokens, anyone may easily buy into or cash out of a Smart Token at any time. As a function of this capability, Smart Tokens do not need to be traded in an exchange in order to become liquid, nor do they require counterparties with their risks.
Smart Tokens maintain a constant ratio of value between that held in their connector and the active supply of Smart Tokens in the market through a smart contract and a “Connector Weight”. The smart contract constantly measures the value in connector against the supply of Smart Tokens in circulation, and establishes a price for exchanging between the two based on the Connector Weight. When a Smart Token is purchased, its price rises; when liquidated, its price falls. In this way, the ratio of value between connector and supply is maintained over time as value travels into and out of a Smart Token.
The smart contract does more than establish the price, however, by acting as an automated issuer and redeemer of its Smart Token. When a Smart Token is purchased, the value in connector expands and triggers the smart contract to create and issue new Smart Tokens to the party who made the deposit into the connector. Conversely, when a Smart Token is liquidated, the smart contract destroys Smart Tokens and credits the party with a corresponding amount of connector tokens. Again, the ratio of value between connector and supply is maintained over time as value travels into and out of the Smart Token.