## BOX 1. Key Elements of Commercial Law ## Source details **Canonical URL:** [BOX 1. Key Elements of Commercial Law](https://www.imf.org/-/media/files/publications/ftn063/2022/english/ftnea2022001.pdf) ## Other formats - [Markdown version](/-/media/files/publications/ftn063/2022/english/ftnea2022001.pdf.md) - [Structured JSON version](/-/media/files/publications/ftn063/2022/english/ftnea2022001.pdf.json) --- ### Key elements - Registries: Registries provide legal certainty about the status of merchants, companies, and acts affecting them. In specialized settings, such as securities markets, registries provide certainty on the ownership of securities and the transactions affecting them. - Contracts: Commercial activities are conducted through contracts. Contracts include the sale of goods and transportation, loans, insurance contracts, and intellectual property licenses. - Companies: The creation of companies allows the accumulation of capital resources and the specialization of management. Companies are used in all forms of commercial and financial activities. - Securities and Negotiable Instruments: Since the origins of commercial law, there has been a need for the incorporation of rights to documents to facilitate their circulation in a secure manner and to facilitate payment and credit. - Secured Transactions: The use of movable assets to increase access to credit relies on cost-effective notice-based registries and agile regimes for the recording and enforcement of security interests. - Insolvency: Insolvency cuts across all institutions of commercial law: Credit is the lifeblood of commerce and credit default makes insolvency absolutely necessary to protect the rights of creditors and to facilitate the restructuring of viable enterprises and the liquidation of nonviable enterprises. ### Role of commercial law in financial activities - Commercial law provides the basic legal infrastructure for financial activities. - Modern financial activities rely on the existence of a robust commercial law system. - Basic banking contracts, such as loans and deposits, are contemplated in commercial legislation. - Most financial institutions (banks, insurance companies, and financial intermediaries) rely on company law for their organization and financing. - Financial markets have grown based on the development of contracts and securities as fundamental tools in commercial law. - Ultimately, commercial law is relevant for the efficient allocation of economic resources, investment, and economic growth. - Financial activities require not only basic commercial law, but a complex layer of supervision and regulation (Cheng 2020). ### Distributed Ledger Technology (DLT) - DLT, often confused or associated with “blockchain,” is essentially a database (see Box 2).5 - In general terms, a DLT network is a means used to maintain and share digital records instantaneously across a network of participants through nodes. - A DLT’s main function is to store, manage, and share the digital records of multiple participants through an instantaneous common network where information is recorded and held by each participant in real-time through the network by nodes. - DLT has the potential to connect parties directly through “accounts,” which enable them to participate in the platform—and, if desired, to not reveal their identities—without the need or permission of a centralized authority. - The database, if properly authenticated, can serve as a registry, although it would be different from a traditional registry kept by a specific person. Instead, the registry is distributed among “nodes.” The nodes collectively maintain and authenticate the registry. - However, the legal status of blockchain and DLT is uncertain in most jurisdictions. ### BOX 2. Types of Distributed Ledger Technology - Public or unpermissioned distributed ledger technology (U-DLT) is a network that is open to all, with no centralized management and parties can create, validate, and view transactions. U-DLT permits “any two willing parties to transact directly with each other (on the internet) without the need for a trusted third party” (Nakamoto 2008). Anybody can operate as a node. U-DLT relies on technological advances in cryptography to allow the authentication of transactions by strangers. - Private DLT is a permissioned and closed system that is owned by an individual or organization. Only the central owner in charge of the network can read, write, and audit the platform. Review of the transactions and consensus is granted at the discretion of the owner. - A consortium or permissioned DLT (P-DLT) is a permitted and group-owned system, where system governance is vested in a group of companies or individuals. Only members can validate and review transactions, and consensus is achieved through a voting or multi-party consensus algorithm. Additional observations on DLT: - Private and permissioned DLT are similar to existing registries. As in existing registries, the recording of information is subject to a set of enforced rules. - Private and permissioned DLT can also use blocks to connect information in the database, but their functioning is completely different from that of unpermissioned DLT. - The three types of DLT share the platform’s ability to record each transaction and execute without requiring the control or manipulation of each party. This is also known as DLT/blockchain’s immutability feature, which occurs when the parties followed the protocol process of the platform to conduct an operation and the platform deems it as final. - In the industry’s characterization, transactions are deemed transparent and non-repudiable, as any party can audit the information without the possibility of altering or modifying it, but the legal analysis of such transactions may be different (see Section V). - Through consensus and autonomy, a distributed network of peers can record information without the need to rely on any centralized operator. ### Automated Contracting and Smart Contracts - Automated contracting and smart contracts generate new possibilities and risks. - Contracts with machine intervention are not new (vending machines are a good example), but with the advent of the internet, electronic commerce entered the mainstream and there are numerous contractual relationships nowadays, including financial services, where a person interacts with a computer system. - A major new development is that machines can contract with other machines (see Chopra and White 2009). When each party introduces instructions and machines execute the instructions of both parties, there is nothing peculiar (for instance, a smart refrigerator “buying” milk from an internet grocery service). - Software codification of complex legal terms, combined with artificial intelligence, weakens the link with human instructions and supplements them through either automated contracting or smart contracts. - Smart contracts are mechanisms for the performance of contractual obligations. - Smart contracts presuppose the existence of a contractual understanding or a “meeting of the minds.” - A smart contract is computer code that, upon the occurrence of a specified condition or conditions, is capable of running automatically according to prespecified functions. - The so-called prespecified functions or “code,” which is generally stored and processed on a DLT system (see Box 3), is basically “the applicable law” between the participating parties (Lessig 1999). ### BOX 3. Characteristics of Smart Contracts - Self-executing: Smart contracts seek to assure performance by using autonomous code. With smart contracts, performance obligations are not written in standard legal language. Rather, these obligations are memorialized using a strict and formal programming language. Smart contract code is executed in a distributed manner by all the nodes supporting the underlying blockchain-based network, without necessarily relying on any intermediary operator. - Autonomous: Because smart contracts are autonomous, promises memorialized in a smart contract are—by default—harder to terminate than those memorialized in a natural-language legal agreement. Because no single party controls a blockchain, there may not be a way to halt the execution of a smart contract after it has been triggered by the relevant parties. Once the wheels of a smart contract are put into motion, the terms embodied in the code will be executed and they cannot be stopped unless the parties have incorporated logic into the smart contract to halt the program’s execution. - Flexible operation: Smart contracts are theoretically more dynamic than traditional, paper-based contracts, because they can be constructed to adjust the performance of obligations during the term of an agreement by using a trusted third-party source—commonly referred to as “oracles,” which can be individuals or programs that store and transmit information from the outside world, thereby providing a means for blockchain-based systems to interact with real-world persons and potentially react to external events. For example, oracles can be connected to a data feed from a third party conveying the latest prices in commodity markets to adjust the parties’ obligations. An oracle can also be made to convey the insights of human beings or support private dispute resolution and private arbitration systems (sometimes referred to as “judge-as-a-service” or “arbitration-as-a-service”). ### Tokens - Tokens are a new instrument for business activities. - The term “token” derives from the traditional meaning of an object that gives the holder the right to a certain asset or service (for instance, a casino token or wardrobe token). - Tokens can be explained as lines of code embedded in DLT networks that may serve different purposes. - For instance, a token can be used as a digital means of exchange, a digital investment, or a resource. - Regardless of the classification, the main functionality of tokens on a DLT is to enable parties to conduct operations, whether these refer to services, goods, or financial instruments, with the token acting as an independent representation of those services, goods, or financial instruments (see Box 4). ### BOX 4. The Main Uses of Tokens Overview - Tokens—regardless of their denomination as payment tokens, crypto assets, virtual currencies, currency tokens, or virtual financial assets, among others—can share common functions in digital environments, mostly through digital ledger technology systems. Payment - Tokens can serve as a means to conduct payments or exchanges in a digital environment, mostly through digital ledger technology systems. Investment - Through a wide array of tokens, such as asset tokens, investment tokens, equity security tokens, security tokens, digital tokens, or crypto assets, tokens can be structured to serve an investment function, in a similar way to traditional securities or other investment products, including the right to participate in the profits of a business venture, in a digital environment. Utility - Tokens can perform the function of giving the right to the holder to use a product or demand a service. *Source: Authors.* ### BOX 1. Key Elements of Commercial Law ### BOX 1. Key Elements of Commercial Law ### Key elements - Registries: Registries provide legal certainty about the status of merchants, companies, and acts affecting them. In specialized settings, such as securities markets, registries provide certainty on the ownership of securities and the transactions affecting them. - Contracts: Commercial activities are conducted through contracts. Contracts include the sale of goods and transportation, loans, insurance contracts, and intellectual property licenses. - Companies: The creation of companies allows the accumulation of capital resources and the specialization of management. Companies are used in all forms of commercial and financial activities. - Securities and Negotiable Instruments: Since the origins of commercial law, there has been a need for the incorporation of rights to documents to facilitate their circulation in a secure manner and to facilitate payment and credit. - Secured Transactions: The use of movable assets to increase access to credit relies on cost-effective notice-based registries and agile regimes for the recording and enforcement of security interests. - Insolvency: Insolvency cuts across all institutions of commercial law: Credit is the lifeblood of commerce and credit default makes insolvency absolutely necessary to protect the rights of creditors and to facilitate the restructuring of viable enterprises and the liquidation of nonviable enterprises. ### Role of commercial law in financial activities - Commercial law provides the basic legal infrastructure for financial activities. - Modern financial activities rely on the existence of a robust commercial law system. - Basic banking contracts, such as loans and deposits, are contemplated in commercial legislation. - Most financial institutions (banks, insurance companies, and financial intermediaries) rely on company law for their organization and financing. - Financial markets have grown based on the development of contracts and securities as fundamental tools in commercial law. - Ultimately, commercial law is relevant for the efficient allocation of economic resources, investment, and economic growth. - Financial activities require not only basic commercial law, but a complex layer of supervision and regulation (Cheng 2020). ### Distributed Ledger Technology (DLT) - DLT, often confused or associated with “blockchain,” is essentially a database (see Box 2).5 - In general terms, a DLT network is a means used to maintain and share digital records instantaneously across a network of participants through nodes. - A DLT’s main function is to store, manage, and share the digital records of multiple participants through an instantaneous common network where information is recorded and held by each participant in real-time through the network by nodes. - DLT has the potential to connect parties directly through “accounts,” which enable them to participate in the platform—and, if desired, to not reveal their identities—without the need or permission of a centralized authority. - The database, if properly authenticated, can serve as a registry, although it would be different from a traditional registry kept by a specific person. Instead, the registry is distributed among “nodes.” The nodes collectively maintain and authenticate the registry. - However, the legal status of blockchain and DLT is uncertain in most jurisdictions. ### BOX 2. Types of Distributed Ledger Technology - Public or unpermissioned distributed ledger technology (U-DLT) is a network that is open to all, with no centralized management and parties can create, validate, and view transactions. U-DLT permits “any two willing parties to transact directly with each other (on the internet) without the need for a trusted third party” (Nakamoto 2008). Anybody can operate as a node. U-DLT relies on technological advances in cryptography to allow the authentication of transactions by strangers. - Private DLT is a permissioned and closed system that is owned by an individual or organization. Only the central owner in charge of the network can read, write, and audit the platform. Review of the transactions and consensus is granted at the discretion of the owner. - A consortium or permissioned DLT (P-DLT) is a permitted and group-owned system, where system governance is vested in a group of companies or individuals. Only members can validate and review transactions, and consensus is achieved through a voting or multi-party consensus algorithm. Additional observations on DLT: - Private and permissioned DLT are similar to existing registries. As in existing registries, the recording of information is subject to a set of enforced rules. - Private and permissioned DLT can also use blocks to connect information in the database, but their functioning is completely different from that of unpermissioned DLT. - The three types of DLT share the platform’s ability to record each transaction and execute without requiring the control or manipulation of each party. This is also known as DLT/blockchain’s immutability feature, which occurs when the parties followed the protocol process of the platform to conduct an operation and the platform deems it as final. - In the industry’s characterization, transactions are deemed transparent and non-repudiable, as any party can audit the information without the possibility of altering or modifying it, but the legal analysis of such transactions may be different (see Section V). - Through consensus and autonomy, a distributed network of peers can record information without the need to rely on any centralized operator. ### Automated Contracting and Smart Contracts - Automated contracting and smart contracts generate new possibilities and risks. - Contracts with machine intervention are not new (vending machines are a good example), but with the advent of the internet, electronic commerce entered the mainstream and there are numerous contractual relationships nowadays, including financial services, where a person interacts with a computer system. - A major new development is that machines can contract with other machines (see Chopra and White 2009). When each party introduces instructions and machines execute the instructions of both parties, there is nothing peculiar (for instance, a smart refrigerator “buying” milk from an internet grocery service). - Software codification of complex legal terms, combined with artificial intelligence, weakens the link with human instructions and supplements them through either automated contracting or smart contracts. - Smart contracts are mechanisms for the performance of contractual obligations. - Smart contracts presuppose the existence of a contractual understanding or a “meeting of the minds.” - A smart contract is computer code that, upon the occurrence of a specified condition or conditions, is capable of running automatically according to prespecified functions. - The so-called prespecified functions or “code,” which is generally stored and processed on a DLT system (see Box 3), is basically “the applicable law” between the participating parties (Lessig 1999). ### BOX 3. Characteristics of Smart Contracts - Self-executing: Smart contracts seek to assure performance by using autonomous code. With smart contracts, performance obligations are not written in standard legal language. Rather, these obligations are memorialized using a strict and formal programming language. Smart contract code is executed in a distributed manner by all the nodes supporting the underlying blockchain-based network, without necessarily relying on any intermediary operator. - Autonomous: Because smart contracts are autonomous, promises memorialized in a smart contract are—by default—harder to terminate than those memorialized in a natural-language legal agreement. Because no single party controls a blockchain, there may not be a way to halt the execution of a smart contract after it has been triggered by the relevant parties. Once the wheels of a smart contract are put into motion, the terms embodied in the code will be executed and they cannot be stopped unless the parties have incorporated logic into the smart contract to halt the program’s execution. - Flexible operation: Smart contracts are theoretically more dynamic than traditional, paper-based contracts, because they can be constructed to adjust the performance of obligations during the term of an agreement by using a trusted third-party source—commonly referred to as “oracles,” which can be individuals or programs that store and transmit information from the outside world, thereby providing a means for blockchain-based systems to interact with real-world persons and potentially react to external events. For example, oracles can be connected to a data feed from a third party conveying the latest prices in commodity markets to adjust the parties’ obligations. An oracle can also be made to convey the insights of human beings or support private dispute resolution and private arbitration systems (sometimes referred to as “judge-as-a-service” or “arbitration-as-a-service”). ### Tokens - Tokens are a new instrument for business activities. - The term “token” derives from the traditional meaning of an object that gives the holder the right to a certain asset or service (for instance, a casino token or wardrobe token). - Tokens can be explained as lines of code embedded in DLT networks that may serve different purposes. - For instance, a token can be used as a digital means of exchange, a digital investment, or a resource. - Regardless of the classification, the main functionality of tokens on a DLT is to enable parties to conduct operations, whether these refer to services, goods, or financial instruments, with the token acting as an independent representation of those services, goods, or financial instruments (see Box 4). *Source: Authors.* ### BOX 4. The Main Uses of Tokens ### BOX 4. The Main Uses of Tokens ### Overview - Tokens—regardless of their denomination as payment tokens, crypto assets, virtual currencies, currency tokens, or virtual financial assets, among others—can share common functions in digital environments, mostly through digital ledger technology systems. ### Payment - Tokens can serve as a means to conduct payments or exchanges in a digital environment, mostly through digital ledger technology systems. ### Investment - Through a wide array of tokens, such as asset tokens, investment tokens, equity security tokens, security tokens, digital tokens, or crypto assets, tokens can be structured to serve an investment function, in a similar way to traditional securities or other investment products, including the right to participate in the profits of a business venture, in a digital environment. ### Utility - Tokens can perform the function of giving the right to the holder to use a product or demand a service. *Source: Authors.* --- _Source: https://www.imf.org/-/media/files/publications/ftn063/2022/english/ftnea2022001.pdf_