India: The Blockchain Arbitral Order: An Indian Perspective

1. Introduction

In an environment of increasing technological advancements and cross-border transactions, the need for maintaining a sustainable global market becomes a matter of regulatory significance with growing global financial interdependence. The rise of the crypto economy in the past decade presents a controversial example of such a scenario. As the crypto economy exists in a technological matrix, particularly within the blockchain network, it defies most norms of traditional methods of transactions (due to digital currencies and assets), contractual obligations and performance, and disputes arising therein.

The resolution process of any such dispute would attract a regulatory framework that can adapt to the code-based cosmos of the blockchain network, particularly through the application of smart contracts in the blockchain arbitral order. However, such a form of a dispute resolution regime often presents inconsistencies with traditional proceedings. Some jurisdictions, i.e., Mexico, have made progress in harmonizing traditional and blockchain dispute resolution orders. This article provides an Indian perspective on the compatibility of traditional and blockchain arbitral orders, with particular focus on strong smart contracts and the lack recourse to post-award proceedings, while also exploring developments in technology that could aid in harmonizing the same.

This article discusses the fundamentals of blockchains, smart contracts and the mechanism and performance of strong smart contract transactions on blockchains such as Ethereum. It explores the tenability of strong smart contracts under India law. Subsequently, it delineates the issues related to enforceability and amendment of the same under the Indian arbitration regime with particular focus on recourse to post-award proceedings in the context of Section 33 and 34 of the Arbitration and Conciliation Act, 1996. Lastly, it provides an analysis of solution-based alternatives, such as the hybrid Kleros model, and capacity for amendments to strong smart contracts and a move towards weak smart contracts.

2. Understanding blockchains, smart contracts and their harmony in the blockchain arbitral order (i) Basic concepts

The conception of blockchain was popularized by Satoshi Nakamoto, through his Bitcoin White Paper. Broadly, blockchains can be understood as public distributed ledgers maintaining records of public transactions. Each such 'block' contains a time stamp and a link to a previous block. Based on cryptography and consensus-based mechanisms, blockchains foster a decentralized and immutable platform premised on party anonymity for their users.

Blockchains find purposive applications when linked with other technologies. For instance, the deployment of smart contracts in blockchain technology – which are "a set of coded contractual clauses that sit on the blockchain and enable self-enforcement of parties' rights and obligations". Simply, such contracts can be used to manage the contractual performance of the parties to it, as they automatically perform the terms of the same.

(ii) Types of smart contracts

Smart contracts exist in two finely defined categories – (i) weak smart contracts and (ii) strong smart contracts. Strong smart contracts provide high prohibitive costs of revocation and modification, while weak smart contracts are relatively easily alterable. Specifically, the large cost of altering the contract in a way that it would not make sense for a Court to do so, defines the character of strong smart contracts. It becomes essential to note that public blockchain networks such as Ethereum employ strong, immutable smart contracts under transactions utilising the digital currency.

3. Mechanism of execution of smart contracts and divergence from traditional contracts

Broadly, smart contracts follow a mechanism where the terms of the contract and the state of facts related to the performance of the contract can be programmed into a decentralized blockchain that cannot be overridden by any individual maliciously or mistaken node.¹ The process of performance of smart contracts can be understood through Nick Szabo's conception of contractware – defined as the physical instantiation of a computer- decipherable contract.

What is characteristic of smart contracts is that they are – (i) executed automatically and (ii) their performance is independent of recourse to Courts. This makes the key point of divergence between smart contracts and traditional contracts to be "the ability of smart contracts to enforce obligations by using autonomous code." In the context of Ethereum, smart contracts are implemented through a distributed manner wherein all nodes support the underlying blockchain-based network whereby no single party controls the blockchain – demonstrating the decentralized nature of blockchain transactions and dispute resolution mechanisms.

4. The tenability of smart contracts in India

(i) Compatibility between the Indian Contract Act, 1872 ("Contract Act") and smart contracts

The bible legislation regulating contracts in India is the Contract Act. Section 10 of the Contract Act provides that "all agreements are contracts if they hold the free consent of parties willing to contract, for a lawfully accepted consideration and with an object." In simpler terms it means that for an agreement to be enforceable under the Contract Act, it must have an offer, acceptance, and consideration. Smart contracts, in their coded existence, contain the elements of offer and acceptance in the form of cryptocurrencies (herein, we are considering the case of Ethereum), which primarily manifest in agreeing to the terms and conditions of using a particular service platform facilitating transactions. The element of consideration, on the other hand, proves to be more difficult to establish.

A pertinent issue that must be considered is whether the Contract Act would recognise a cryptocurrency such as Ethereum to be valid consideration – as the recognition of cryptocurrencies, in the absence of any regulation related to the same, has continued to be a contested issue in India. Section 2(d) of the Contract Act calls for a reciprocal promise or conduct of the promisee for consideration to be valid. Interestingly, the Hon'ble Supreme Court of India has lifted the ban imposed by Reserve Bank of India on cryptocurrency which prevented banks and financial institutions from providing services to individuals or businesses who were engaged in cryptocurrency dealings. This move helps us determine that cryptocurrencies would constitute valid consideration and has created a pro-blockchain arbitral order in India by the use of smart contracts.

(ii) Requirements of digital signatures, identification of parties and issues of enforcement of smart contracts in the blockchain arbitral order (excluding establishment of jurisdiction)

Under Sections 5 and 10 of the Information Technology Act, 2000 ("IT Act"), 'electronic signatures' have been identified as being both legally recognised and for the Central Government to make requisite rules as manner and format of the same, etc. Further, as per section 65B of the Indian Evidence Act, 1972 ("Evidence Act"), contracts containing digital signatures can be submitted as evidence. Additionally, under Sections 36 and 48 of the Arbitration and Conciliation Act, 1996 ("Arbitration Act"), an application made for the enforcement of an arbitral award must include an "original copy" of such awards. In fact, for domestic awards under Section 36, Section 3 of the Stamp Act read with Schedule I, Article 12 of the Arbitration Act provides that such award must be stamped too when in "writing" (this does not apply to awards of international commercial arbitration under the Arbitration Act). However, there yet remains to be clarification on whether and how such stamping could be required for "electronic means". Even with these regulations in place, the blockchain arbitral order possesses certain additional challenges.

Firstly, as smart contracts in blockchain transactions are formulated in a self-automated and coded format, the requirement of digital signatures remains an unfulfilled criterion from the perspective of contractual enforcement. Secondly, under both contract law as well as under the Arbitration Act, the identification of parties remains a critical aspect of enforcement of contracts generally and arbitration agreements specifically – particularly under the requirements of the Evidence Act read with section 7(4)(a) and 8 of the Arbitration Act. For a regime premised on coded party anonymity, it becomes difficult to highlight who the dispute stands between in terms of breach or termination of the smart contract, which presents a challenge in relation to sections of the Arbitration Act. Thirdly, the requirement of stamping of domestic arbitral award in "writing" poses an additional challenge to the blockchain arbitral order. Lastly, it also becomes important to note that under the New York Convention (Article IV), to which India is a signatory, the requirement for signatures or identification of parties do not form essential requirements for arbitral awards in terms of form and content.

5. Post-arbitral proceedings are incompatible with strong smart contracts

Certain sections of the Arbitration Act provide for post-arbitral proceedings. These proceedings which are initiated after the passing of the arbitral award. In this regard, attention is drawn to Sections 33 and 34 of the Arbitration Act, which deal with correction and interpretation of arbitral award (including the making of additional awards) and applications for setting aside arbitral awards. Section 33 consists of provisions which can aid in amending, modifying or adding interpretation to arbitral awards by triggering the arbitral process again (usually for a period of thirty days). Section 34 provides recourse to courts for setting aside awards within well-defined categories such as party incapacity, issues of patent illegality, public policy and so on.

However, it is worthy to note that there remains a large disparity between arbitral awards passed under blockchain arbitration proceedings and such post-arbitral proceedings. For instance, once an arbitral award is passed under the blockchain regime, the smart contract by means of its contractware triggers the actions it is coded to perform therein. Significantly, such a mechanism does not allow any scope for modifying, correcting, or adding interpretation to such awards under the criteria listed under Section 33 of the Arbitration Act as the performance of the contract precedes any such challenge. Additionally, as it would flow, the automated performance of smart contracts qua the arbitral award provides no room to set aside the award if either party would like to present a challenge in that regard. Effectively, there remains no accommodation of any altered consensus of parties after the passing of the arbitral award under a blockchain arbitral order and such a system could be argued to be infringing upon party autonomy.

6. The emergence of Kleros and employment of the hybrid blockchain arbitral order

The Kleros 'arbitration' system is one which can be activated once a dispute arises in the execution of a smart contract deployed in Ethereum, freezing fund transfers under the smart contract until the conflict is resolved. It is a decentralised system adopting blockchain arbitration for the settlement of disputes under smart contracts through the appointment of jurors, costs, etc. as preconditions to admitting such matters under the dispute resolution clause of a smart contract. Effectively, such a system would qualify to be a form of Online Dispute Resolution ("ODR"), which have been recognised as tenable under the United Nations Commission on International Trade Law ("UNCITRAL") by the Working Group III of UNCITRAL. India has been a member UNCITRAL and has legislated the Arbitration Act on the basis of the UNCITRAL model. This raises consideration regarding the need to explicitly recognise ODR platforms in India, especially when the same has been recognised under the UNCITRAL model.

Returning to the Kleros platform, some essential characteristics must be noted. The platform uses the wisdom of the crowds (known as crowdsourcing), game theory and jury voting for resolution of disputes through appointed jurors incentivised through payment as arbitrators and appointed through the submission of PNK tokens (a form of cryptocurrency). While this platform created a space for ODR under the aforementioned mechanism, the decision of a Mexican Court changed the complexion of arbitral awards adjudicated by the Kleros mechanism as laid down above. Therein, an arbitrator under traditional arbitration incorporated the arbitral award of Kleros under his arbitral award – the specific portion of the traditional arbitrators award which was explicitly recognised by the Court.

The paradigm adopted in Mexico showcases an instance of convergence of a national legal order with blockchain arbitration, wherein it was ensured that the prevailing lex arbitri was not contravened. Additionally, the Carrera Report also made a case on admitting small-scale claims, insurance matters and other such disputes referred Kleros to be worthy recognition within civil justice systems – particularly from the standpoint of enforceability. This Report also suggested that the parties' choice to resort to blockchain arbitration could be recognised both as a transactional agreement, or as a tool for Ex Aequo et Bono ("Rule") decision making. Fortunately, this Rule has been read into Section 28(2) of the Arbitration Act and would help adopt the Kleros model, in addition to global jurisprudence on the same now. More importantly, this could lead to the creation of a hybrid model wherein the arbitrators could be required to create a Procedural Order that includes a brief summary of the dispute and evidence to support it. This Order would be addressed to Kleros, which makes its decision based solely on legal facts. The Arbitrator then must incorporate Kleros' decision into their Arbitral Award to govern the substance of the ruling and issue it in writing.

7. Conclusion

The blockchain arbitral order provides a decentralized, speedy, objective, and transparent form of ODR. The arbitration landscape's accommodation of the same could be revolutionary. As the nexus between blockchain and traditional arbitral orders continues to grow, other platforms, in addition to Kleros, have emerged. Some examples of this are Juris, Sagewise, Aragon, and so on. Each such platform could continue developing technology which bridges the gap between both such orders possibly on the aforementioned hybrid model and possibly envisage a move towards weak smart contracts as it would provide greater scope for amendments and ease in post-arbitral proceedings. As has been established that smart contracts can be recognised under the Contract Act, the new considerations must be envisioned for the accommodation of blockchain arbitration under the Arbitration Act.

Footnote

1. Blockchain nodes are the moderators that build the infrastructure of a decentralized network. Their primary function is to maintain consensus of a blockchain's public ledger, which varies from one type of node to the next.

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