We have earlier discussed problems related to Bitcoin. The two major problems are – high transaction fees and long confirmation time. Because of these two problems, Bitcoin is still not commonly used for everyday payments. Lightening is a concept for those who want to use Bitcoin as a mode of payment. You must be curious to know how Lightning (Bitcoin Lightning Network) can help solve these problems, so let us start the discussion.
What is Lightning Network?
Lightning is a decentralized network that uses contract functionality in the Bitcoin blockchain. It helps facilitate instant payments across a network of users. The activities that happen do not occur directly on the blockchain, and hence it is considered as layer-2 or off-chain solution.
Why does Bitcoin Need Lightning?
Let us talk about the two problems in detail to answer the question – why does Bitcoin need Lightning?
Bitcoin is a decentralized network, and hence it requires consensus across a range of computers to process transactions. As a result, it can only process seven transactions per second. A traditional credit card company like Visa can do over 24000 transactions per second.
For Bitcoin transactions, the transaction fee is low if you are doing large ticket transactions. However, for making a small payment of Rs 500 or Rs 1000, the transaction fee is so high that it is not even worth considering Bitcoin to do such transactions. For smaller transactions, the transaction fee could be higher than the transaction value.
Also, in most cases, a Bitcoin transaction is confirmed in several minutes. Now imagine, you go to a cafe with your friend and make payment for a coffee. You will have to wait for 3 to 5 minutes before the attendant can confirm the payment is received.
Lightning provides a solution for these problems – it can make Bitcoin scale.
How does the Bitcoin Lightning Network work?
If you want to use a Bitcoin Lightning network, you must have your own multi-signature Lightning wallet. The transactions are validated in the process by the exchange of a single key. Basically, the transactions do not go to the main Bitcoin blockchain. Instead, transactions get verified in real-time in a local system.
These layer-2 transactions occur independently of layer-1 transactions and don’t need to be updated on the main blockchain. Many Lightning network transactions happen before the records are updated on the main blockchain. It reduces the confirmation time and the fees of the transaction.
The two parties fund a channel through the process known as funding transactions. Then Lightning uses multi-signature scripts and smart contracts to reduce fees and confirmation time.
Let us understand the working of the Bitcoin Lightning Network works. The advantage of the Lightning network is that as more and more people get connected to Lightning, new users don’t have to create their own multi-signature wallets. As the wallets grow, the connection between the wallets also grows. The new users can use existing wallets to do transactions as long as there are funds in the wallet.
Are you confused? Let us take an example. Mr. X opens a channel with a bookstore and deposits Rs 5000 of Bitcoin. All the transactions with the bookstore can be facilitated using the Lightning network. Mr. Y has a different channel open with his local Cafe and buys books from the same store as Mr. X. You see a thread that connects Mr. X, Cafe, and Mr. Y.
The connection makes it possible for Mr. X to buy coffee from the Cafe. He can use the Lightning balance he has with the bookstore.
Mr. Y can use the balance he has with the Cafe to initiate transactions with other businesses within Mr. X’s network.
Pros and Cons:
You have figured it out by now. The advantage of the Lightning network is that it allows Bitcoin to scale. You can make instant payments even for a small amount without paying high fees. With Lightning payment, you will be able to buy a cake for your friend or enjoy evening snacks with your partner and pay using Bitcoin.
It also comes with enhanced privacy. Only when a payment channel is closed, and the transaction amount is handed out to both parties, a transaction is confirmed on the public blockchain.
The Lightning network is made up of bidirectional payment channels. The channel will close and be settled on the blockchain if either party drops it at any point. To handle this issue, the concept of the watchtower came into place. It monitors the nodes for fraud.
To your disappointment, Lightning is still a concept with limited real-world applications. It is not available to day-to-day Bitcoin users.
Lightning is a two-layer solution that provides a way for Bitcoin to scale. It is still in the experimental phase. However, experts believe it will sooner rather than later be made available to retail users. There are still issues with Bitcoin Lightning Network’s capacity to increase scale while cutting transaction fees. You will see a lot of advancement in the Bitcoin Lightning Network in the coming years – it is just the beginning.