Should code be law?

Speaker A: Welcome to the new series of Tech Talk with me, Yasha Popovic, associate editor at Central Banking. As it happens, we recorded this episode a few days before the world's uh, biggest ever crypto heist, Professor Alex Preda came on to talk about what happens when trust on blockchains breaks down. The legal ramifications and the new evolving institutional interactions as decentralized and centralized finance cloud collide in the world of smart contracts. Is code law? Should it be? Alex, welcome to the podcast.

Speaker B: Thank you for having me.

Speaker A: Your work has taken you from London to Chicago to Hong Kong and you're now focused on how you achieve trust in stablecoins. I wanted to start with what happens when trust on blockchains actually breaks down. Could you tell us about your analysis of blockchain and crypto court cases?

Speaker B: Yes. So one good site where one uh, can investigate, uh, breakdowns of trust is litigation. And they have a number of court cases around smart contracts, uh, which is a subset of the overall cases, um, that uh, concern um, source code or crypto, focusing on US federal court cases. And since 2017 there have been um, more than uh, 1380 court cases involving um, crypto and source code. And um, a subset of these cases consists of uh, 663 court cases around smart contracts. And uh, this is a sample I'm focusing on. Most of these actually 529 cases around smart contracts context have occurred since 2022. So over the past four years we had more than 500 cases in US federal courts involving smart contracts. And these cases, um, concern various uh, aspects, for instance, concern, uh, some of them concern the definition of uh, securities commodities in relationship to smart contracts. But other cases concern bankruptcy and recovery. IP intellectual property. Ah, significant number of cases concerning intellectual property for future penalties. The interesting um, thing, um, I have observed looking at the data and I should say here that uh, I've started this pro, this is an ongoing research project. I started it and I'm looking uh, at various arguments, uh, made in quartz. But the first look revealed the following. Out of these cases, if we look at their composition, institutional composition over the past years, four years, as I said, 529 cases. And it changes not only in volume, it changes in this institutional composition. Which means the following cases related to definitions of um, securities commodities in relationship to smart contracts go down. But cases related to forfeiture penalties, bankruptcy recovery or IP intellectual property cases, they go up. Litigation is progressively exposed, exposing the smart contracts to institutional tests. Right. So more and more fortification, we learn various ways in which smart contracts can fail. And then the institutional means of addressing this failure point and these tests will clarify, um, mechanisms of failure, causes of failures, but also different ways of addressing, uh, these failures. This stands in stark contest with the stances we have heard, uh, in the previous, over the previous decades, uh, concerning the, I wouldn't say here, impossibility of failure in the case of smart contracts, but, um, um, more these arguments around um, how this law and smart contracts, uh, being deterministic, cannot fail. Well, actually we see from uh, these cases that they very well can.

Speaker A: And it sounds like that's only going to become even more complex as we have things like AI agents coordinating all that.

Speaker B: Exactly. That was my next step with the intervention of AI agents. And nowadays we have a lot of discussions, a lot of conversations about, uh, an agentic economy where AI agents intervene in transactions and payments. Right. Where AI agents might manage investments on behalf of a principal principle. Uh, right. What is the effort of others and who or what is exactly that other? So I think, uh, here the courts will have uh, quite a bit of work to do in the future because I expect that we will encounter similar cases of failure. And uh, this failure needs to be or is usually adjudicated in litigation. This why I think that this, such cases, litigation cases are so interesting in order to investigate the conditions of failure, stable coins, and in the future highly likely AI agents as well, and what the redress mechanisms could be.

Speaker A: So I actually wanted to take a step back and your work, uh, looks at trust and stablecoins as a coordination issue. So could you break down the different types of stablecoins and um, blockchains? Because we sort of use these blanket terms, but there are important nuances.

Speaker B: Yes. So usually in the public discussion, in the public sphere, to put it like this, we encounter these distinctions. We have proof of work, um, chains such as the Bitcoin chain, and then we have proof of stake chains. And here the name Ethereum comes up first. I think the situation is more complicated than this in the sense that if we look only at proof of stake chains, we see a number of very significant differences among them. Number one, how are validators selected? How are blocks of information constructed? Is the execution irreversible and how and under what conditions? What are, uh, the economic sanctions for misbehavior validators? What are, uh, the governance mechanisms on this change? Who decides what and under what conditions? What are the decision rules? And finally, what is the chain concentration? What is the number of validators? Are they selected? Is it um, um, greater number of validators? Or do you see a concentration of decision making in the hand of only or in the hands of only a few validators? And if you look at all these elements, there are significant uh, significant differences among uh, major chains, uh such major proof of stake chains such as Ethereum, Solana, Cardano, Polkadot, the Cosmos Hub, the Tron, Algorand and so on. It's not exactly the same mechanism. So we need to look for instance very closely at how ah consensus is achieved um, among valid. What is the consensus mechanism among validators? How is authority distributed uh, in each proof of stake chain. To give you just an example, for instance if we take the Tron chain which is significant with regard to stablecoin transactions we have only 27 elected super representatives that produce blocks and that govern the network parameters. In the case of Ethereum by contrast we have a much greater number and we have open validator participation. Right? In other cases such as on Solana, ah, we have delegated stakes. Right? Um, overall all in all, uh, I would suggest that it is a mistake to treat proof of stake chains as a whole homogeneous entity or space. It's not like that at all. It's a very differentiated space and these differences are ah consequential that is with regards to proof of stake uh, chains. Right? But with regard to stable coins we have also seen uh more recently a greater differentiation across stablecoins. We have number one this fiat backed stablecoins. That means that we have collateral and this collateral can be cash or a combination of cash money market deposits and um, various instruments um, such as uh, Treasuries. But then uh, we had in the past algorithmic stablecoins which are not so popular and ah are not as popular as they were four years ago. Right? They as opposed to they made this promise that the PEG is maintained by an algorithm. Then we have commodity backed stable coin uh, such as paxg, among others we have crypto back stable coins such as LUSD or Bold. And finally a ah more recent development is um, the emergence of synthetic stable coins. And synthetic stable coins are ah partly combined collateral with some algorithmic mechanisms to maintain the peg. So to put m it shortly both on the side of uh blockchains and on the side of stablecoins we see greater variety than uh, what you would expect based on some simplified representations uh, if you want to put it like this in the public sphere. And not only that um, but uh, these differences between stablecoins um, also resonate in uh, in their models of governance. We don't encounter um, the same Model of governance across all um stablecoins. Right. So we have um, one model of governance that relies on corporate issuers that would be as example STEVA or circle Tether issues usdt Circle issues usdc. But the second model is regulated institutional model licensed fiat backed stablecoins coins. We have um seen um here in Hong Kong recently the monetary authority issuing LI to licenses this April, in April 2026 one of them to HSBC which is a major global bank for such a fiat backed stable coins. But um, on the um third model is that of decentralized autonomous organizations that issue stable coins. That's very different from uh, from an institutional model. Sky would be an example in this case. But at the other end of the spectrum perhaps we see models where stablecoins claim to be governed by immutable protocols. Um, liquidity is an example in this sense with bold. And the fifth model would be um, synthetic or derivatives back dollar. So the synthetic model is a combination of algorithmic mechanisms with collaterals. So overall to sum up uh, um this description when we look at stablecoins we need to ask primarily what is number one, what is the reference asset? What does that stablecoin references? Does it reference cash? Does it reference a commodity? Does it reference crypto? Does it reference a combination perhaps of uh crypto and an algorithmic mechanism which would be self referential uh ultimately. Right? So this is the first question what is the reference assets? The next question is what is the stabilization mechanism? Is it, what exactly? Is it an algorithm? Is it something else? Um, I do believe that uh when it comes to stabilization mechanisms a lot of work is to be um, to be done. Uh especially m. After this uh fiat backed um sorry licensed fiat backed stable coins will be launched. Uh then uh, we will see. I'm um expecting a number of issues related uh arising around destabilization mechanisms. And finally the third dimension will be whatever uh governance mechanisms and whatever legal claims, right? How these stable coins governed in uh each case? And how can I lay a uh claim to a particular type of stablecoin? How can I redeem them? And so on and so forth. And we have seen here a number of regulatory developments particularly in the UK recently.

Speaker A: In all of this what do you see as the thing that regulators should be focusing on the most? What is their role? What should be their priorities?

Speaker B: Well until now we have seen the following, the following developments. The um, this classificatory issues are uh, behind us. Um then uh, we have seen more recently uh issues related to you know, stablecoins as a property Being uh, behind us. Um, UK courts, uh, have answered this question, uh, recently. Um, one big issue for me would be the mechanism of stability. But stablecoin is by definition stable. Right? But um, the stability needs to be tested at scale, especially in the case of regulated, institutionally issued licensed stablecoin. Um, and what I'm saying here is based on the expectation that the volume of transactions will grow over time. So the challenge is not necessarily to achieve stability. When you have a lower transaction volume that probably is not so challenging, but not so difficult to achieve. The challenge comes with scaling up. So the challenge is around uh, stability, around m, the mechanism of stability and how this mechanism of stability, of stabilizing stable, of keeping stablecoins stable. How are they going to work? They will arise more with scaling up these uses. And I'm expecting primarily that the scaling up will come from these licensed regulated institutional models. What the challenge is exactly? Uh, right now it's very difficult to uh, anticipate. They will mostly come in uh, practice. They will arise in the practice of transacting stablecoins at scale. But what I'm expecting now is that um, you know, this mechanism are going to, to be, have to be adjusted um, during uh, the use. And uh, the other issue that I think is very important here, there are two more issues I'd like to mention here. Number one, when it comes to governing, to regulating m Stablecoins, the issue arising is how is responsibility allocated in the case of um, I wouldn't say malfunctioning, but in the case of, of failures of different degrees and of different kinds of failures, how is this responsibility allocated? Do you see this problem already being dealt with in courts of law? But it's not easy because who is responsible for what? Is it the software code? Is it uh, are the originators, the operators of the software code those uh, tasks with maintaining it, or is it something else? Uh, so this allocation of responsibility right on liability is going to be one issue, uh, that's of growing relevance in the future. The other aspect I want to add here is the following. Increasingly this is made even more complicated by the following. Um, imagine that um, I buy one stable coin, let's say usdc, uh, you should buy seller coin on one chain. Then I use a bridge to transfer it to a different chain and conduct a transaction on chain number two. Then the stablecoin is transferred to a third chain number three and then it's redeemed against circle. In this case, issues of maintaining stability are not restricted only it's a hypothetical case, but A very realistic one. And the issue maintaining stability is not just between, uh, let's say, uh, one particular chain, ethereum, on the one hand, and then, uh, the collateral reserves of fiats of cash on the other hand. It's how you maintain the stability. When, um, stable coins circulate across different chains, they can be issued on one, redeemed on another one. You have bridges between chains that are, as we know, vulnerable to hacks. And then you need to ensure governance. Right, across different chains, different organizations, different machines. Uh, I'm using machine as a metaphor for chains and across different geographic locations. So is this trifecta of organization, machine and, um, jurisdiction that is going to raise significant challenges.

Speaker A: We've covered the breakdown of trust and the difficult work of building it and maintaining stability. In the world of smart contracts. Will code ever be law or should it? How do you understand that question?

Speaker B: Basically, we have three positions, and I'm simplifying here, position number one, which emerged already in the late 1990s, so more than a quarter century ago, is saying, well, code, uh, can regulate behavior, but that's not legitimate law. Ultimately, courts cannot be law. That's position number one. Scholars like Lawrence Lessig have argued this. But then we have a position that has emerged more recently, I would say, over the past eight, nine years. And that position argues that, uh, actually we can automate, uh, contextual institutional relationships and we can use blockchain for generating or for setting up an autonomous, um, system of regulation. Autonomous and regulated. The system of regulation. So this position number two, in opposition to position number one, uh, says, yes, we actually can have situations where code is law. Now, this has encountered some criticism because, as scholars have argued, the law depends on many other things that are not software code, such as interpretation, social institutions, recognition, and so on and so forth. So it's more than just correct execution. Right. And, um, we see then a third position that has also emerged more recently that argues that code of law are not necessarily mutually exclusive, but they should form, um, a hybrid institutional arrangement. Now, how that hybrid institutional arrangement is going to look like on the ground, we do not know that yet, because these are issues emerging between our eyes. And the transformation is very rapid. It's even made more complicated with the emergence of AI agents and with this emergent, um, what I would call machine economy. So an economy where we have transactions conducted not only between human actors, but also between different AI agents that act either as an agent on behalf of a human principle or act as a principle. So issues are being. And this is all connected with the issue of smart contracts and with the issue of stablecoins, because scholars arguing that in such an economy stablecoins are going to pay an even bigger role, uh, in the emerging machine economy. Now some parts of this um, well, projections. But these projections we see in part of this become very quickly reality. So the more interesting question now would be as follows. It's not necessarily whether code will become law or not, but for me the question is what happens to locked when um, we see machines increasing the organizing situations to which legal rules must respond? That's the more interesting question. And as I mentioned to you, we have an emergent situation now. We don't know yet, we don't have yet all the elements of um, a situation and it's evolving very fast. But um, that would be the major question how law should react to such a situation where we have machines increasingly organizing the transactions.

Speaker A: Any thoughts? Anything you um, wanted to add?

Speaker B: Yeah, I think the most exciting question, I mentioned it at the end, um, this question. We have on the one side institutions and this institute like no legal institutions, but not only. And they need to respond to a situation that uh, evolves in front of our eyes um, very rapidly and um, where machines um, intervene more and more, um, in a broader economy. We had this situation 15 years ago mainly in financial markets with algorithmic trading, high frequency trading. Yes, but that was a. I wouldn't call it a sandbox, but still I. Containable situation. But now uh, it's changing and expanding very fast to broader wider areas of the economy. So um, it's very exciting as a field of research,

Speaker A: just this coordination between institutions as well as it being a very pressing legal question.

Speaker B: Yes, exactly. I think um, I would emphasize here. So, um, uh, it's a much broader question. It's not only about the legal system, it's about how institutions, broadly social institutions broadly speaking, will respond to this situation.

Speaker A: Fantastic. Alex, thank you so much for coming on the podcast.

Speaker B: Thank you very much for having me. I've enjoyed it very much.