The Bitcoin Lightning Network explained! What is Lightning Network? LN is a cryptocurrency protocol to improve blockchain speed & scalability to facilitate micropayments & increase transactions per second through bidirectional payment channels.
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Number 7: What is the Lightning Network?
The Lightning Network (or LN) is a protocol aimed at dealing with the speed and scalability issues that blockchains are currently facing. Initially designed to tackle these limitations on the Bitcoin blockchain, the Lightning Network could ultimately work on top of any blockchain. Through bidirectional payment channels that are kept off the main blockchain, this protocol will allow people to instantly send and receive payments with significantly reduced transaction fees. A payment routing system effectively creates a decentralized network of lightning-fast transactions, much as the name suggests. In Bitcoin’s case, LN has been touted as the protocol that will enable it to potentially scale to millions of transactions per second, and take it one step closer to mainstream adoption.
Number 6: Why Was It Created?
LN was mainly created for micropayments, with the goal of rivaling the transaction power of traditional systems such as Visa, which can scale upwards of 47,000 transactions per second. In his initial design of Bitcoin, Satoshi Nakamoto provided the building blocks for rapid transactions that take place between cooperating users and aren’t held back by fees or block times. Satoshi’s idea inspired many developers who have since been trying to refine it into a working prototype. Joseph Poon and Thaddeus Dryja were the first to publish a whitepaper on the Lightning Network. There are currently several LNs in active development with ongoing testing.
Number 5: How Does It Work?
In order to understand how the Lightning Network works, it’s best to focus on a theoretical example. Let’s say Jack and Jill plan on doing a lot of Bitcoin transactions between one another. With Bitcoin’s current setup, the fees alone would hinder them from carrying out their transactions on the main blockchain, particularly if the sums in question are small. What the Lightning Network does is enable them to setup a bidirectional payment channel between themselves that doesn’t broadcast every transaction they make on the Bitcoin blockchain. This is called an off-chain approach. Either Jack or Jill (or both) deposit a certain amount of Bitcoin in a multi-signature address, thus opening up a payment channel. The multi-sig address acts as a safe that can only be unlocked when both Jack and Jill sign a transaction with their private keys. The amount of Bitcoin deposited is equivalent to the overall estimated value of their transactions. For full transparency, the opening of a payment channel is recorded on the main blockchain and includes a balance sheet detailing the amount of Bitcoin each of them has contributed. From that point on, Jack and Jill can perform unlimited transactions with each other; constantly updating a copy of the balance sheet that they both possess. After each update on the balance sheet, they each sign it and keep the information between themselves. Constantly signing each update prevents fraud or holding the funds hostage by either party. There’s no limit to the lightning-fast transactions they can perform since everything takes place away from the main blockchain. To close the payment channel, all either Jack or Jill has to do is simply broadcast the latest copy of the balance sheet across the Bitcoin main chain. After the miners validate their signatures and decide that everything is up to par, the funds stored in the multi-sig address are released to Jack and Jill in accordance with the latest balance sheet. Remember that Jack can also use the Lightning Network to set up a channel with a coffee shop, bookstore, bar, restaurant, etc. The Lightning Network effectively reduces strain on the Bitcoin blockchain, as only two transactions will ever be recorded on it: the opening of a payment channel and the closing of a payment channel. One quote puts it as: “LN moves the value from the ownership of Bitcoins to the promise of ownership of the Bitcoins.” By pooling funds together in a common safe, what both parties essentially transfer is the promise of ownership, with all the failsafes put in place to ensure that the said promise is valid. This, however, is only the tip of LN’s potential.
Number 4: How is the Network Actually Created?
The technology behind the Lightning Network enables the creation of a network of payment channels, and smart contracts ensure that this network operates in a safe and decentralized manner. As such, it isn’t necessary to open a direct channel with everyone you want to transact with. To get back to our example, let’s say Jack has an open payment channel with Jill, who in turn has a channel with Joe. If Jack wants to send a Bitcoin payment to Joe, he doesn’t have to open a channel directly with him. Jill will act as a node that will route the payment, and the transaction between Jack and Joe doesn’t require them to trust Jill as an intermediary. A cryptographic hash ensures that Jack’s payment will reach Joe, or otherwise will be automatically refunded to him if an indirect path between them isn’t possible. What Lightning Network does is try to find the shortest payment route between two entities with the least amount of intermediaries and the least amount of fees. Intermediary nodes in LN are somewhat similar to miners in Bitcoin. They can’t control the funds they're moving and simply provide an incentivized routing service on a decentralized network. Every time a transaction uses their connecting nodes, intermediaries are paid a small fee. This routing protocol embedded within the Lightning Network effectively gives it the potential of being globally scalable.
Number 3: What Are Its Benefits?
As I’ve mentioned before, Lightning Network could very well be a game changer for tiny payments. With Bitcoin, at its lower limits, LN accounting operates to thousandths of a satoshi. Speed is another significant benefit. Regardless of the number of hops your payment has to go through on the network, it will always be completed almost instantly. There’s no interaction with the blockchain except upon the opening and closing of a payment channel. Since you don’t have to broadcast every transaction on the main blockchain, privacy is also increased.
Number 2: What are Its Drawbacks?
As we’ve seen it happen with mining pools, there is some degree of concern that the Lightning Network will face similar centralization in the form of payment hubs. Another question is: how will LN influence mining since people will be able to use it in order to circumvent main blockchain transaction fees? Other concerns have been raised and have to do with the impossibility of making offline payments and the time users might have to wait to get their funds back in the case of fraud or unresponsive peers.
Number 1: Why Should I Care?
As a second layer protocol, the Lightning Network can potentially operate on top of any blockchain, and it may finally address scalability by reducing the load on the main blockchain. If that’s not a good enough reason to care, think about what it could do for Bitcoin. Imagine a more nimble blockchain that will allow you to pay for groceries at the supermarket, drinks at a bar, transportation, bills, or any number of potential real-world use cases; all the while keeping Bitcoin’s underlying protocol intact. Lightning payments open Bitcoin and other currencies up to mainstream integration and may hold the key to one day replacing cash, credit cards, or other traditional payment methods. LN's technology still has a long way to go and some issues to work out before any of that can happen. But a couple of first steps have
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