Can a contract be legally honoured without an actual signature on it?

Getting your Trinity Audio player ready...

Jimmy Nguyen explores the legal repercussions of Segregated Witness.

Mainstream utility is a vital aspect in ensuring the survival and success of a blockchain, and we have found over and over that this cannot be achieved unless it is done in harmony with legislation. Regulation, after all, doesn’t have to be the enemy: it could very well be a very powerful catalyst in mass acceptance of technology when consumers feel they are protected.

As blockchain technology is becoming more prominent, legislation has been slow but is starting to catch up. Disruptive technologies as blockchains bring about a major redo of existing laws in order to cover the wider scope of possibilities they entail. When the internet ushered in fast, cross-border, digital messaging and trade, it required an equally sophisticated set of rules to honour electronic contracts, and simultaneously, digital signatures—the laws surrounding which are still in force to this day.

As outlined by the American Bar Association in its Digital Signatures Guidelines, there are two key pieces in order to make a digital signature valid: what was signed, and who signed it. Bitcoin’s original state before the August soft fork known as SegWit intended to and is capable of satisfying these requirements, being “a chain of digital signatures” composed of the transaction hash—serving as the “what” of a contract, and the private key—serving as the signature pointing to who signed the transaction.

But in the case of BTC’s legacy chain, SegWit enables nodes to discard the digital signatures to free up space in hopes of speeding up transaction processing. The signature is replaced by an identifier attached to the transaction, and is discarded from this record. Nodes may choose to allocate a separate depository for these signatures or not.

Jimmy Nguyen, chief IP, communications, and legal officer at nChain, in an issue of The Computer & Internet Lawyer, explores legal uncertainties in separating digital signatures from the transactions which they brokered.

Nguyen articulates that with the costs and inconveniences attached to keeping such records, retrieving digital signatures later on for legal and auditing purposes would be problematic: it’s highly likely that no one will keep these records unless there is an economic incentive to do so. That would then defeat the trustless, decentralized nature of Bitcoin since we will all end up relying on these nodes for a purpose that was originally intended for the blockchain itself. This would probably incur additional fees for something that would have otherwise remained a free, untouchable feature of the Bitcoin blockchain in the first place.

Questions of legal validity and enforceability arise given the base requirements of electronic contracts conflict with the state of transactions under SegWit. The Federal e-Sign Act and the Uniform Electronic Transactions Act (UETA), for example, require “association of signature with the record.” Nguyen questions whether SegWit satisfies this requirement.

“Under SegWit, can it really be said that the electronic signature is ‘attached to or logically associated with’ the transaction data in a manner suffi cient to show intent to approve, given the segregated data trees and the possibility for signature data being discarded? Or does SegWit detach and disassociate the digital signature from the transaction data?”

In the highly likely case that a signature data cannot be retrieved, authenticating agreements and transactions becomes a muddled process. This brings the question forward: can a signature identifier—without the actual signature itself—be presented as a valid signature under the e-Sign Act? Subsequently, Nguyen points out that if the signature identifier does not qualify as a valid signature under the e-Sign Act, it is also rendered void in case of civil and criminal proceedings.

Even more fatal for the blockchain is that this bookkeeping nightmare can deter businesses from operating on the blockchain and prevent BTC from realizing the greater Bitcoin 2.0 vision.

In a SegWit world, signature data may not always be “attached to or logically associated” later with transaction data. That would contravene the leading legal framework for electronic contracts and trigger additional hurdles for authenticating blockchain records as evidence in legal proceedings. These risks could deter businesses from operating more on the blockchain, and impede the greater vision of a Bitcoin 2.0 network powering smart contracts and greater functionality in the future. To achieve greater Bitcoin 2.0 vision, the bitcoin community needs to demonstrate to businesses, courts, regulators, and legislators that bitcoin records— and in particular, signatures—are reliable and authentic; this effort is just getting started and should not be undermined by proposals such as SegWit which fundamentally change the nature of bitcoin.

Will legislation adjust to cover such a complication as SegWit in blockchains? And will it do so in time? With more and more competing blockchains popping up on the race for global dominance, time is of the essence. Did BTC just shoot itself on the foot for the sake of a wee bit of temporary legroom?