"Code is Law" is Nonsense (And Can Get you 20 Years in Prison) Crypto trader Avraham Eisenberg’s fraud conviction for exploiting crypto exchange rules to steal $110 million is a devastating blow against the “code is law” argument, which has been championed by decentralized finance shills. During closing arguments, Eisenberg’s lawyer, Waymaker LLP’s Brian Klein, emphasized the 28-year-old’s trades were “fully compliant with Mango Markets contracts,” tapping into a theory in crypto that something is legal if a smart contract code permits it. Eisenberg’s criminal case is noteworthy as it is the first time a jury deliberated on whether exploitation of smart contract code for DeFi protocols can constitute fraud and market manipulation. In the end, the defense’s embrace of “code is law” didn’t persuade the New York jury and Eisenberg’s intent to deceive and manipulate with his trade is what carried the day. The jury found Avraham "Avi" Eisenberg guilty on all three counts of fraud and manipulation and Eisenberg now faces a maximum sentence of 20 years in prison, with sentencing scheduled for July 29, 2024. news.bloomberglaw.com/securi… Are So-Called Smart Contracts and DeFi the Future of Finance? No, Definitely Not. Blockchain and crypto’s hype often relates to so-called “smart contracts.” Smart contracts are supposedly self-executing basic programs that live on blockchains and are triggered when predefined conditions are met. In other words, a smart contract is just a fancy name for code that runs on a blockchain, and interacts with that blockchain's state. And what is the code? It's Pascal, it's Python, it's PHP. It's Java, it's Fortran, it's C++. If we're talking databases, it's stored procedures written in an extension of SQL. coindesk.com/markets/2016/04… By stacking smart contracts on top of one another, smart contract promoters promise to build complex automated applications to improve the carrying out of soap-called decentralized transactions where “code is law.” What a crock. Some Background Blockchain believers tout smart contracts as having tremendous potential to change the way capitalism works, democratizing participation and disintermediating previously rigged and governmentally imposed financial practices. For example, in a recent podcast, U.S. Securities and Exchange Commission (SEC) Commissioner Hester Pierce (and famed “crypto-mom) spoke glowingly regarding the wonderment of, and her admiration for, smart contracts and a system where “code is law.” Peirce stated: “There’s a lot of interesting experimentation going on in the crypto space . . . crypto is a way to remove intermediaries . . . smart contracts allow you to set up automated payments that pay out based on satisfaction of criteria embedded in code. So there’s a lot of potential and uses there . . . such as the ability to transact with someone using code as an intermediary as opposed to an institution. [When code is law] there is much greater transparency, less cost and more privacy than existing technologies.”web3isgoinggreat.com/?id=use… This dangerous position, especially from a sitting SEC official, is troublesome to say the least. The Truth About Smart Contracts Code is law as a mantra is ridiculous. The problem with “smart contracts” is that they are neither “smart” nor “contracts,” and instead serve as just another vacuous, mindless, grossly misleading and inherently foolish Web3 and blockchain catchphrase – ideal for spreading more blockchain groupthink. Smart contracts are more akin to self-executing purchase orders, which can be written by anyone to do anything, including to steal, delete, purloin and pilfer. This is precisely what the U.S. Department of Justice (DOJ) alleges a company called Forsage’s founders did in yet another notorious DeFi and blockchain deception. By writing smart contracts that not only automatically orchestrated a horrendous fraud but also moved investor funds wherever the founders wanted, Forsage’s founders were able to effortlessly steal $340M from their investors. justice.gov/opa/pr/forsage-f… The four founders of Forsage — Vladimir Okhotniko, Olena Oblamska, Mikhail Sergeev and Sergey Maslakov — are each charged with conspiracy to commit wire fraud for promoting the company on social media as a legitimate investment opportunity while actually running a high-tech DeFi criminal enterprise. Specifically, DOJ alleges that as soon as an investor paid money into Forsage by buying a "slot" in a smart contract, the contract automatically diverted the funds to other Forsage investors, and in at least one instance, to the crypto accounts of the founders themselves -- a classic Ponzi scheme. justice.gov/opa/pr/forsage-f… There exists no intelligence, trust or privity in smart contracts, just code, which is not only often flawed and rife with error and vulnerabilities but can also be easily manipulated to do whatever the coders want. Financial Intermediaries Are Critical For The Consumer Financial intermediaries like banks, brokerages, credit card companies, financial apps, etc. play a critical beneficial role for all consumers. They offer redress and relief when there is fraud, negligence or even a mere mistake. They allow for reversal, remedy and recourse. They are policed by sophisticated regulatory oversight and intricate consumer protections such as mandatory auditing, inspections, record-keeping, net capital requirements, licensure of individuals and much more. On the other hand, “code” is perilous and replete with incessant bugs, inestimable fork possibilities and cybersecurity and privacy vulnerabilities galore, with infinite possibilities for deceit, double-dealing and error. Code does not allow for settling conflicts or managing mistakes. In fact, code is comprised solely of what coders want, which can too easily leave customers penniless, helpless and financially decimated – and create a list of legal liabilities, questions and problems that is miles long. Sources: papers.ssrn.com/sol3/papers.…; linkedin.com/pulse/10-bigges…; forbes.com/sites/davidbalaba…; blaize.tech/article-type/web…; cnbc.com/2023/02/04/crypto-i… Smart Contracts Are Actually (And Ironically) Inherently Ambiguous The truth is that smart contracts are inherently ambiguous. The programming-language terms in smart contracts can mean something entirely different than originally intended, create opposing technical effects, and causing interpretation and construction to collapse. Per one hi-tech legal scholar: “Every smart contract is therefore only as resilient as its underlying blockchain. Contract law depends on social institutions, particularly those that establish and limit the different ways. But it also provides a backstop on how badly natural- language contracts can fail. In many cases, the meaning of a contract is clear to a large fraction of people in the relevant linguistic community. If a contract isn’t worth the paper it’s printed on, it is because of corruption or enforcement problems, not because of ambiguity . . . But because programming languages are formal, constructed systems, when the bottom drops out, it can really drop out. The relevant community can redefine the programming language in a way that radically alters the meaning of programs written in it. Smart contracts on a blockchain are particularly vulnerable to this. The same consensus mechanism that keeps them in a local equilibrium can lock them quickly into a new and very different equilibrium — indeed, there are often powerful incentives for users to push the blockchain into a different equilibrium. Blockchain- based smart-contract programming languages don’t have continual linguistic drift; they have occasional earthquakes.” scholarship.law.upenn.edu/cg… Of course, traditional contracts have flaws, cause problems and sometimes fail miserably. But in the legal world, there is some degree of human analysis put into contract disputes where outside parties evaluate whether an interpretation is reasonable or within the bounds of existing law. For instance, in a "code is law" world, the Ethereum Virtual Machine (EVM) is a piece of software that executes smart contracts and computes the state of the Ethereum network after each new block is added to the chain. But the EVM doesn't take a second to consider whether the action it's about to take is reasonable or not, it just executes the instructions it's given. This means that even seemingly reasonable smart contracts can end up with wild results, such as that one time someone tried to swap $5 in stablecoins and wound up with a supposed USD-denominated stablecoin balance equivalent to more than four times the current circulating US dollar supply. web3isgoinggreat.com/?id=use… Along the same lines, the code for smart contracts is sometimes auditable because the developers post it publicly, but that's an opt-in, not the default. The default state is in "bytecode," the machine-readable form that isn't readable by humans. The bytecode in smart contracts can be reversed engineered somewhat, but that begs the question — is that what your average consumer needs to do to invest in one of these protocols safely? That seems absurd. As opposed to smart contracts, written agreements are at least somewhat understandable. What are the chances that the contracting parties are fluent in Solidity? Society could not function if everyone had to become a cybersecurity and Solidity compilation expert to invest safely. Transparency, Really? Smart contract advocates are quick to boast that the transactions into smart contracts are "transparent" – but that's a misfeature. No one actually wants to leak the contents of their transactions to the world. Imagine buying someone a beer at a bar and them having access to your entire bank transaction history. Or if you're a business that would disclose material non-public information, if everything in your accounts payable and receivables was disclosed to the public. That's a dystopian world where all of our financial norms would break down. Some smart contracts are lending products, where people have to post collateral to release a loan. The collateral in these schemes is denominated in crypto assets, though, which also renders them securities that require registration. If these are stablecoins, then it's some unlicensed investment vehicle where you stake shares in a money market fund and get a yield based on the investing activities of the fund operators, which is akin to a bank but with no protections or oversight, creating multiple levels of extraordinary risk. Code is Law Is Wildly Ineffectual Some argue that the risk in smart contracts is somehow analogous to the risk in relying on written contracts, which can be poorly, or even fraudulently, written. Hence, written contracts have the same level of risk as smart contracts. That is a flawed and anemic argument on so many levels. First off, we have courts and centuries of precedent to settle disputes for legal contracts. Immutability is a misfeature; we want the courts to intervene if innocent people get involved in predatory contractual arrangements. There have been cases where smart contracts have been written and self-imploded where nobody (including the developers) can access the assets because of a software bug. "Lose your keys or make a typo or fat finger, lose all your assets" is not just dangerous, it’s ludicrous. Celebrated law Professor Kelvin Lowe sums up the problems with smart contracts neatly in a recent article published in The Business Times and more formally in an exhaustive analysis published by the prestigious International & Comparative Law Quarterly: “Context likewise clarifies the supposedly revolutionary potential of smart contracts. At its heart, smart contracts are simply clever marketing for automation. In the first place, many smart contracts are, quite simply, not legal contracts. Nor is automation new either to commerce or the law. In April 1965, the Dutch Postcheque-en Girodienst (PCGD) created the first automated clearing service in the world (thereby introducing the Dutch word giro to many languages) and the English courts dealt with the first case of automated contracting in December 1970 in Thornton v Shoe Lane Parking Ltd. What is new in smart contracts is the loss of context, generating excitement over the possibility of automating ever more complex contracts. Even first-year law students quickly become acquainted with the difficulties of drafting complex agreements in natural languages. The challenges of doing so in code – where there is no arbiter such as a court to either add lines of code that go without saying (implied terms in legal contracts), or reinterpret code that must have gone awry (interpretation of legal contracts) – are orders of magnitude higher. It is thus unsurprising to see hackers target all manner of smart contracts in the cryptoverse – DAOs, bridges, etc– whether these are legal contracts or not. Worse yet, much like the amber in Jurassic Park, blockchain immutability preserves bugs in smart contracts for all and sundry to exploit for as long as the smart contract is live.” (emphasis added) linkedin.com/pulse/futility-… Along the same lines famed international legal scholar Dr. Eliza Mik eloquently writes: “Smart contracts are written by humans. The very same biased, opportunistic, and unpredictable humans that smart contracts are supposed to replace. Abstracting from technical competence, we cannot assume that coders are more ethical or morally superior to bankers, judges, lawyers etc. If coders are dishonest or incompetent, then their code cannot be trusted — not to mention eliminate the need for trust. And, if such coders cannot be identified, then there is also no one you could sue for losses caused by “malfunctioning” smart contracts.” elizamik.medium.com/dont-tru… This is why blockchain can never triumph over traditional databases and why there is no crypto–killer app. Because “code is law” is not just an exploitive groupthink catchphrase and rickety, unsound ethos, it’s alsowildly ineffectual. linkedin.com/pulse/why-goldm… Looking Ahead Smart contracts are yet another example of venture capital marketing theater to dupe people into believing that crypto, DeFi and the rest will somehow release them from the evil clutches of governmental monopolies and provide a refuge for those who believe in a more libertarian ethos. It’s all one mammoth smokescreen and a dumpster fire of fraudulent technobabble. Imagine if banks failed but had no insurance, no systems to mitigate fallout and the fails were inside jobs. That's DeFi. Per Mike Tyson, "Everyone has a plan until they get punched in the mouth." The same goes for crypto-victims, instantaneously subjugated to unsecured creditors (see, e.g. the debacles of FTX, Voyager, Celsius, BlockFi, Genesis, Terra and so many others). DeFi is inefficient, wasteful and uneconomical; facilitates massive energy consumption; increases network congestion and bugs; is environmentally destructive; and as so many experts have stated, is cumbersome, unwieldy, bulky, burdensome, clumsy and the list goes on. concerned.tech DeFi is an illusion. Most users pay high fees to a slew of intermediaries, including self-hosted wallets (where investors store their crypto), exchanges (where investors exchange sovereign currencies and crypto) and miners (who charge fees to validate crypto transactions). DeFi is plagued by: high network transaction fees; failed transactions; net capital issues; blockchain vulnerabilities; privacy and cybersecurity weaknesses; software forks; and blockchain patching code challenges. DeFi's risky leverage, liquidity mismatches, built-in interconnectedness, lack of shock-absorbing capacity and poorly understood infrastructures -- all undermine financial stability, creating systemic and bank run risk while exacerbating issues of procyclicality and destabilization. Most importantly, DeFi is not about setting up a legal entity as a nonprofit, running the apparatus via smart contracts and funding it all with tokens. It’s not whether you rely on open-source software or can use a token within some smart contract. It's not about Pokemon cards, baseball cards or beanie babies. In the end, it’s all about trading and marketing cryptocurrency which, despite their claims to the contrary, are not laundromat tokens, monopoly money or Chuckie Cheese coins. Promoters are marketing and the investing public is buying most of these tokens, be they operating via smart contracts or otherwise, touting or anticipating profits based on the efforts of others. You can buy a baseball card as an investment but it is not a security because it has nothing to do with the efforts of others (except the player perhaps and the baseball card marketplace) or unless you buy it as part of some sort of investment pool, limited partnership or other kind of offering. You are betting on not just the greater fool theory with crypto but the efforts of that crypto's promoters and originators, who are often manipulating the marketplace. That triggers the '33 Act. What is especially unsettling is that by calling themselves “exchanges,” “brokers,” and “market-makers,” crypto trading platforms co-opt historically powerful nomenclature that implies trust, oversight and consumer protection, etc. This powerful grift can quickly evolve into dangerous and unlawful marketing theater. That triggers the '34 Act. It’s like if a drug dealer suddenly offered to perform brain surgery for their customers, yet had never gone to college or medical school, never done a hospital internship or residency and their only health training consisted of watching a few TikTok videos on how to sell heroin to elementary school kids. The Stark Reality is that by hijacking bona-fide regulatory labels, and making bogus promises of revolutionary and futuristic smart contracts, together with a sleek website, flashy Super Bowl commercials and attractive customer-interphase, entities like Coinbase and Binance create a counterfeit veneer of assurances, integrity, expertise and regulatory supervision. Don’t be fooled. These crypto trading platforms understand full well that their actions violate U.S. laws and understand all of the implications and investor carnage that their chicanery can cause -- despite what some self-proclaimed "fintech" lawyers claim. Players like Binance, Coinbase and other crypto-trading platforms are simply playing (and winning) a short game of regulatory arbitrage, all carried out in an effort to make as much fiat as possible before their inevitable demise or severe reduction in size. These so-called “crypto-exchanges” claim to be champions of the future of finance and digital couriers of transformative innovation that are the future of money. Yet, in an extraordinarily hypocritical twist, when the SEC comes knocking, entities like Coinbase argue in court papers that selling crypto is just like selling baseball cards, American Girl dolls or Beanie Babies. courtlistener.com/docket/674… Meanwhile, the abstruse noise created about “smart contracts” and "DeFi” remains a critical part of the ruse created by unscrupulous profiteers; a ruse designed to entice the disenfranchised who crave a more libertarian, free-wheeling and accessible financial marketplace. DeFi, smart contracts and the rest are nothing more than an affinity fraud that is as old as finance itself – because it turns victims into victimizers, gratuitously growing its legions of promoters and charlatans exponentially. Fail not at your peril.