Since 2018, Bitcoin users have been able to take advantage of the Lightning Network. This is an additional layer on Bitcoin's blockchain that allows users to make transactions outside of the blockchain at lightning speed and at a bargain price. This is necessary because it can sometimes take minutes to hours for a Bitcoin transaction to arrive. And you often pay top dollar for that.
Bitcoin's scalability problem
The first few years of Bitcoin were relatively quiet and trouble-free. Not many transactions were made, so the ones that did were made almost instantly and for low cost.
In 2017, this changed. There was a real hype surrounding Bitcoin, which led to more and more Bitcoin transactions being made. The network became overloaded, and people had to wait longer and longer before their transaction was processed. The cost of making transactions also went up.
You can compare this problem to a highway where there is a traffic jam as soon as more cars want to enter the highway. It then takes longer for all the cars to get through the highway. So there had to be a solution to this problem, and it seemed that the Lightning Network could provide it.
What is the Lightning Network?
The Lightning Network is a Layer 2 solution for Bitcoin's blockchain. We talk about a Layer 2 solution when the application serves as a new layer for the Layer 1 blockchain. A Layer 2 solution provides a solution to the scalability problem of a blockchain. So this does not always have to be for Bitcoin's blockchain.
What makes the Lightning Network unique is that it is an off-chain solution. This means that transactions on the Lightning Network no longer take place on the blockchain, but on a layer placed on the blockchain. This ensures that the blockchain is less burdened.
In fact, there is only a maximum number of transactions that Bitcoin's blockchain can handle: seven transactions per second. This is an incredibly low number, especially compared to other blockchains and payment providers. Visa, for example, can process 24,000 transactions per second.
So if Bitcoin is to serve as an alternative to these kinds of payment services, it will need to process more transactions per second. However, this cannot be done on the blockchain, so an additional layer is built on top of the blockchain.
Think back to the highway we were just talking about. Widening the highway cannot be done because there is a ditch on both sides. However, it is possible to build a three-lane highway on the other side of the ditch. This creates two highways over which traffic is divided.
This example is similar to the Lightning Network: expanding Bitcoin is not possible, so an extra layer is added so that transactions can be distributed between these two roads.
Can I use the Lightning Network?
If you are bothered by Bitcoin's long transaction time and high fees, you can use the Lightning Network. You will first need a special Lightning wallet. This wallet can make transactions over the Lightning Network.
Once you have downloaded the wallet, you need to fill it with Bitcoins. When you send Bitcoin to this wallet, they are still sent over the normal Bitcoin network. The coins you send from this wallet to another address, however, are sent over the Lightning Network.
The transactions you make over the Lightning Network are processed in a different way than the transactions over Bitcoin's network. The transactions that occur on Bitcoin's blockchain are added to blocks. Such a block contains multiple transactions and is created approximately every 10 minutes.
A transaction on the Lightning Network is not added to a block. Instead, transactions are processed separately: the transaction is sent to several nodes that check it, and then the transaction finally arrives at the recipient.
Before you can perform a transaction, you must first create a separate payment channel. You do this by connecting to a node that wants to perform your transaction.
This ensures that transactions can be processed at lightning speed, unlike Bitcoin's blockchain, where you often have to wait tens of minutes for your transaction to arrive.
User scenarios of the Lightning Network
It's great that transactions can be sent quickly and at low cost. But why is this so important?
Bitcoin was originally designed to be used as a means of payment. However, it is quite difficult to pay with Bitcoin when you sometimes have to wait half an hour for your transaction to arrive.
Suppose you are at the supermarket and want to pay with Bitcoin. When you use your Lightning wallet for this purpose, your transaction will arrive at the supermarket within seconds. You also pay virtually no transaction fees to make the transaction. This, therefore, makes it a lot more attractive to use Bitcoin as a means of payment.
It should be noted, however, that using the Lightning Network is not yet that easy. Many people experience problems setting up a payment channel. In addition, you also have to create a separate wallet that is suitable for the Lightning Network, and not everyone can receive such payments.
Other solutions to Bitcoin's scalability problem: SegWit
The Lightning Network is not the only solution people have come up with to Bitcoin's scalability problem. In the past, there have been many developers who have ventured into this area. Another well-known solution is the Segregated Witness (SegWit).
The SegWit was introduced before the Lightning Network. A block on the blockchain consists of different types of data:
- Transaction data
- Digital signature
Separating these two types of data creates a lot more space within a block. As a result, many more transactions can fit into a block, reducing the load on Bitcoin's network.
Even though this solution already saw the light of day in 2017, it took a long time for Bitcoin transactions to be massively executed with the SegWit technology. This is because there were many miners, mainly in China, who did not want to update to SegWit. In fact, because of the SegWit, miners received lower rewards.
When the Chinese government announced in 2021 that mining would be banned, the number of SegWit transactions skyrocketed. Whereas in the beginning of 2021 71% of the transactions used the SegWit technique, by the end of 2021 that number had increased to 84%.
The Lightning Network is a separate network built on top of Bitcoin's blockchain. By processing transactions on this new layer, it greatly reduces the load on Bitcoin's blockchain. This should allow Bitcoin to process more transactions, reducing both transaction time and transaction costs. And that’s a good thing, is this makes it easier to use Bitcoin to perform payments.