Lightning Network or LN is one of the most exciting developments in the blockchain ecosystem, allowing for zero-fee cross-chain payments secured by existing blockchains. In this guide, I'll explain how the lightning network works, how it facilitates off-chain payments, and what this means for cryptocurrency adoption.
When Bitcoin debuted in 2009, everyone was excited about its potential to disrupt the financial industry. According to the developers, Bitcoin is intended to facilitate the instant transfer of money around the world for a very low fee, but was this achieved? No. In fact, the reverse became the case. As Bitcoin grew in value and adoption, the number of daily transactions increased and the network lacked the capability to handle these volumes instantly. This resulted in slower transaction cycles and increased costs. There were times when fees skyrocketed to more than $30 per transaction. This made Bitcoin unreliable for microtransactions because no one would want to pay fees that were sometimes much higher than what they are actually shopping for.
As this issue of scalability persisted in the Bitcoin network, the community proposed several solutions to tackle this issue. One of such solutions was the Lightning Network.
What is Lightning?
Basically, Lightning is a technology which allows faster and cheaper Bitcoin transactions by creating separate and private layers on an inter-party basis on top of the blockchain. This private layer or channel is governed by rules that have to be signed by both parties before any transactions can take place. However, these transactions are then recorded on a local ledger and do not go to the main blockchain. Another set of rules which define a termination date and time after which the transaction record will go to the main blockchain ledger are usually established within the private channel.
How it Works
To put this into perspective, let us demonstrate a real-life scenario of how Lightning Network works. Jack and Mary create a private channel to transact between themselves. Jack has 5 BTC and wants to send 1 BTC every day to Mary over 5 days. In the private channel created, there will be 5 transactions between Jack and Mary but when they decide to terminate this transaction and commit to the blockchain network, only a single transaction will show up indicating that Jack pays 5 BTC to Mary. Technically, this has reduced the size of the public ledger on blockchain as well as making the entire transaction scale a lot better than using traditional blockchain nodes.
Additionally, the Lightning Network allows Bitcoin transactions to be locked between two wallets and then sends a copy of the transaction to the network, this only becomes real when it is added to the blockchain. On-chain transactions cost more money to execute but this is not the case with Lightning Network. Lightning is an off-chain network, and every change in the transaction is updated until the channel closes. Channel closure is where the final transaction gets committed on the blockchain.
Benefits of the Lightning Network
Lightning Network has some really important effects and implications on Bitcoin:
- An estimated thousand-fold increase in the capacity of the Bitcoin network;
- Transactions that can be trusted in a matter of milliseconds, without network confirmations;
- Tiny fees for off-chain transactions – made to LN nodes only; no fees to miners until settling on-chain;
- Possibility to make micro-, nano- and even pico- transactions, as small as 1/1000th of 1 Satoshi;
- Trading Bitcoin in real-time directly from a secure wallet, without depositing funds on exchanges;
- Atomic swaps: crypto-to-crypto trading across different blockchains (e.g. LTC to BTC);
- Enhanced privacy with only net transaction amounts visible on the blockchain.
Limitations of the Lightning Network
Although the Lightning technology solves, to an extent, the Bitcoin scalability problems, it does come with a number of setbacks which includes:
- Lightning technology requires both parties to be online for a transaction to take place. In other words, no payments can take place when one of the parties is offline. If one of the parties is offline or unresponsive, the other party has to wait for hours before the channel is closed for the funds to be sent via an alternative route.
- A sufficient quantity of Bitcoin has to be dedicated to all the transactions that you want to carry out. For instance, if you want to pay all your employees for the next year, you need to transfer all the years’ worth of Bitcoins into the private channel before any transaction can take place.
- If you want to send some Bitcoins through the Lightning Network, each of the intermediary channels needs to have equivalent Bitcoins balance before they can handle the transaction. For instance, if party A wants to send 1 BTC to parties B and C, each of the parties combine the need to have at least 1 BTC in their respective wallets before the transaction can take place. This is a big scaling issue.
Utilizing LN in Cryptocurrency Transaction
Utilizing the Lightning Network is pretty simple depending on the option you choose to set up. There are web-based, desktop and mobile phone services that allow you to start using the Lightning Network wallets right away.
- Web-based Wallets
There are several online services that allow you to use the Lightning Network wallet right from the web without the need to set up any configuration. One of those trusted services is htlc.me created by Alex Bosworth. But do remember that you have to ask your other party to set up the same web service on their browser before you can send payments back and forth.
- Desktop Wallets
Currently, there are two trusted desktop wallets designed with non-technical users in mind; the native Lightning app and Zap wallets. Both wallets support the back-end client as the Lightning Network Daemon (LND) so users can use both apps to check the same balance and channels. Zap wallet has been a preferred option for beginners because it is designed to provide easy to use access. It is currently being developed by Jack Mallers and has a community of developers where everyone can contribute in an open-source environment.
- Mobile Phone Wallet
Because the Lightning Network is a standardized protocol, lots of developers continue to contribute to the software implementation. One of such groups is the Éclair Group, which has successfully created the first Lightning-enabled Android app. The app is easy to use and has an awesome feature that allows users to establish a channel with Éclair node using a one-click button.
Lightning is a provable solution to Bitcoin scalability problem. The technology has made Bitcoin economically viable for microtransactions as well as increased transactions speed by million folds. However, the network can still improve in terms of connectivity.
Notice that I have used bitcoin to illustrate the workability of the Lightning Network, but the same technology can be activated on any bitcoin-like blockchain that has segwit activated, such as litecoin.
Read Also: What is SegWit? | Beginner’s Guide
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