Arbitration of Digital Disputes in Smart Contracts and The Release of The Digital Dispute Resolution Rules from The UK Jurisdiction Taskforce

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This article first appeared on Arbitration Notes by Herbert Smith Freehills, here.

On 22 April 2021 the UK Jurisdiction Taskforce (UKJT), a government-backed initiative chaired by Sir Geoffrey Vos, Master of the Rolls, and led by LawTech UK, published the Digital Dispute Resolution Rules (the Digital DR Rules). The aim of the Digital DR Rules is to enable the rapid resolution of blockchain and crypto legal disputes, offering users a procedural framework and a choice of either arbitration or expert determination.

In this short blog piece we consider the context surrounding the Digital DR Rules and their potential use by clients.

The need for real world enforcement and dispute resolution for digital disputes

The use of novel digital technologies has rapidly increased over the last 5-10 years, with many seeing blockchain as a key technology to enable self-executing, digitally-connected contracts designed to increase security, reduce cost and improve efficiency.

Some have suggested that blockchain enables its users to eliminate disputes altogether or, at least, to significantly disrupt conventional methods for dispute resolution. However, this risks overstating what blockchain can achieve in the context of dispute resolution, at least in the short to medium term. This is particularly true of smart contracts and, chiefly, their purported ability to eliminate disputes through wholesale self-enforcement.  While the performance of actions on the blockchain is limited to the digital world, much of the performance required under commercial contracts takes place in the physical world. As a result, while self-executing smart contracts and blockchain applications have the potential to increase the efficiency of dispute resolution dramatically, disputes that require inputs or outputs external to the relevant online network will not disappear altogether. On the contrary, the irreversible nature of the blockchain makes it crucial that any self-enforcing aspects of the parties’ agreement are anchored within a valid legal framework and that the parties identify at the outset the applicable dispute resolution mechanism.

Risks of not including an applicable resolution mechanism in a smart contract might include the following:

• Decentralisation is the cardinal feature of blockchain technologies. However, it may also give rise to very complex conflict of laws issues concerning the applicable laws and the courts which have jurisdiction to determine any disputes arising out of the parties’ commercial relationship. Parties’ ability to refer a dispute to the courts in at least one relevant jurisdiction also cannot be ousted by agreement (for instance in favour of an ‘on-chain’ contractual dispute resolution mechanism), unless the agreed dispute resolution mechanism would amount to arbitration within the terms of the New York convention (as implemented in England & Wales, for example, by the Arbitration Act 1996). As such, it is important for parties to agree a method for resolving their digital disputes which will be robust and enforceable if and when disputes unfortunately arise.
• Transactions executed on a blockchain are irreversible and leave an immutable record. It is possible that the smart contract could self-execute based on input data even in circumstances where it would be obvious to a human operator that something has gone wrong. In such situations, the availability of emergency interim measures such as prohibitory injunctions and freezing orders may be of the utmost importance.

Herbert Smith Freehills’ Digital Law Group and Global Arbitration Practice have published extensively (including in Inside Arbitration Issue 5, Inside Arbitration Issue 9; and other publications by HSF’s Digital Law Group) on the legal implications of the adoption of digital technologies and the need for smart contracts to contain clear and robust contractual mechanisms for dispute resolution.

Arbitration as the dispute resolution of choice for digital technologies: the UKJT Rules in context

(i) Government interest in digital technologies

Governments are very much alive to the potential of such digital technologies and are keen to increase business confidence in their adoption. They are also alive to the potential of attracting the resolution of disputes related to these technologies to their shores. As part of this movement, the UKJT, led by senior members of the UK legal profession, published a Legal Statement on Cryptoassets and Smart Contracts (Statement) in 2019, which, while not legally binding, confirmed the UKJT’s view that blockchain-based smart contracts are capable of satisfying the basic requirements of an English law contract. The legal statement is intended to encourage and accelerate the adoption of smart legal contracts and the choice of English law to govern them.

(ii) Why arbitration for digital disputes?

Arbitration is uniquely suited to enable the efficient and effective resolution of digital disputes. As arbitral awards are enforceable across the globe pursuant to the New York Convention, the inclusion of a well-drafted arbitration clause into smart legal contracts may address the jurisdictional issues posed by the decentralisation of the blockchain. In circumstances where the dispute raises difficult technical questions as to the operation of the code, the parties would benefit considerably from being able to select and appoint arbitrators with the requisite technical understanding. Where the protection of proprietary information is a key concern, agreeing to confidential arbitration is the natural choice over public litigation proceedings. Further, many arbitral institutions have adopted procedures allowing for the appointment of emergency arbitrators within a matter of days to issue urgent interim relief. Some have also adopted procedures intended specifically at smart contract disputes. More generally, arbitral procedure is flexible enough for disputes to be expedited and resolved very quickly.

(iii) The Digital DR Rules as the answer?

On 22 April 2021 the UKJT issued their Digital DR Rules to offer parties to smart contracts the option for incorporating “real world” dispute resolution within their digital contract. The rules were drafted by a sub-committee of the UKJT, including HSF’s Dorothy Livingston.

The Digital DR Rules aim to facilitate the resolution of digital disputes by offering arbitration under the English Arbitration Act 1996 or an Expert Determination process.

The rules (which can be found here) may be incorporated into a contract, digital asset or digital asset system by including reference (which may be in electronic or encoded form) to the rules. They set out a rapid (but flexible) procedure, with the tribunal to use its best endeavours (unless otherwise agreed by the parties) to resolve the dispute within 30 days from its appointment. They are intended to offer maximum flexibility to adapt to as yet undeveloped technologies, and to reach a resolution to disputes quickly and efficiently by arbitrators with appropriate technical expertise.  The Digital DR Rules include various provisions specific to digital technologies including, where the relevant network enables such functionality, optional anonymity for parties and enabling on-chain implementation of decisions by giving the Tribunal powers in relation to digital assets.

Should you wish to discuss use of the Digital DR Rules or alternatives for resolving digital disputes through arbitration (including by reference to institutional rules), please contact Craig Tevendale, Chris Parker, Dorothy Livingston, Vanessa Naish or Charlie Morgan.