Blockchains show revolutionary potential when it comes to money and finance. However, current restrictions such as scaling have limited Bitcoin’s potential.
Bitcoin has ten minute block times, which doesn’t make it a great currency. Imagine paying for your groceries in bitcoin only to be sent to a “waiting room” until that block is minted. No one is going to wait a few minutes for a transaction to occur.
Additionally, each block has a maximum size, and can only process a handful of transactions per second. This has caused major backlogs in processing these transactions. This in turn has led to increased fees, as each transaction is essentially competing to get into the next block.
Bitcoin has proved to be an interesting, albeit volatile, asset. But in order for bitcoin to reach every day use as a currency, the network is going to have to scale to meet increased demand. We are yet to see a really game changing scaling solution. The good news is that there are several projects trying to solve this problem. The best part is these second layer networks are all taking on this problem in different ways. They are trying to address scaling to meet the needs of each specific blockchain.
The Lightning Network
The Lightning Network’s specific function is right there in the name. It’s designed to make the transfer of bitcoin super fast while reducing fees. This could possibly provide a solution for retail providers that could accelerate real world Bitcoin adoption.
Normally with the Bitcoin network, the higher you pay in fees, the more likely your transaction is likely to get into the next block. Now this amount of time could range from seconds up to ten minutes. It depends on which time in the block that your transaction occurred.
You might have noticed that we called the Lightning Network a second layer solution. All that means is that it is a network supporting a blockchain, an additional layer upon it. Second layer solutions conduct “off chain” transactions that are then written onto the blockchain once they reach their final state and are completed.
Lightning Network characteristics
I know that might be a lot to try and understand. So let’s use an example, and highlight certain characteristics of a Lightning Network transaction.
Let’s say Alice and Bob are doing recurring business, where Bob pays Alice .001 BTC a week. Without the Lightning Network, this transaction would have to be completed every week, on chain, meaning that you would have to pay a fee on every single one of those transactions.
Additionally, a mining fee that comes with the .001 BTC transfer might not be that attractive for miners to include in their blocks. This may potentially delay this transaction. The Alice gets mad at Bob because she doesn’t have her bitcoin yet, even though Bob sent it.
Here’s how the Lightning Network works:
Bidirectional Payment Channels
Two participants create a ledger entry on the blockchain which requires both participants to sign off on any spending of funds. Both parties create transactions which refund the ledger entry to their individual allocation, but do not broadcast them to the blockchain. So a separate, off chain ledger is keeping track of the transfer of small amounts of money between Alice and Bob.
Something cool to note! These are bidirectional channels, so not only can Bob pay Alice, Alice can pay Bob as well. Every transaction updates in this sub-ledger. But only the most recent version is valid, which is enforced by blockchain-parsable smart-contract scripting. This entry can be closed out at any time by either party without any trust or custodianship by broadcasting the most recent version to the blockchain. Only then is a fee paid.
Blockchain as Arbiter
As a result, it is possible to conduct transactions off-blockchain without limitations. Transactions can be made off-chain with confidence of on-blockchain enforceability. This is similar to how one makes many legal contracts with others, but one does not go to court every time a contract is made.
While the Lightning Network looks promising, it’s still in its infancy. It just launched its main net, and although there have been some successful transfers, there’s still some bugs that have to be worked out. So our suggestion? If you’re gonna use a Lightning Network or run a lightning node, use small amounts of money to start with — just to test it out.
Even though it’s in its infancy well just mean it’s in its infancy, it has a room to grow. I’m very excited to see what’s in store for the Lightning Network in the future, and to see if it can actually be a viable scaling solution for Bitcoin.