What is Bitcoin Lightning Network and How Does It Work?

Muhammad Naeem

Blogger

Bitcoin, the world’s first and largest cryptocurrency, was introduced to disrupt the current financial system of the world and has gained massive popularity over the years. However, when more people started to use the Bitcoin network, its scalability and transaction speed issues also became apparent. New users found themselves in long transaction queues, something they were not expecting from the Bitcoin blockchain considering its reputation. For example, Visa can process 65,000 transactions per second while Bitcoin processes only seven transactions per second. Moreover, if users don't attach high transaction fees, the transaction confirmation process by miners can even take days as miners prioritize transactions with high fees. To address all these challenges, the Bitcoin lightning network was introduced as a Layer 2 protocol.

What is the Bitcoin Lightning Network?

Lightning Network is the second layer added over the Bitcoin Blockchain that shifts some transactions from the main blockchain so that it can work faster. The lightning network is designed to process transactions at a cheaper and faster rate. You can think of it as a separate express lane alongside a busy highway which you can use to zip through the traffic when the highway is too busy. Similarly, the lightning network offloads some transactions from the core blockchain and processes them off-chain to make it work faster. Through the lightning network, the Bitcoin blockchain can process up to 1 million transactions per second; it also allows users to send or receive Bitcoin with zero or minimum processing fees.

How does the lightning network work?

The Lightning Network operates by facilitating off-chain transactions that are not recorded on the main blockchain. These off-chain transactions are conducted using smart contracts, which define the rules and conditions within the payment channels. Smart contracts establish payment channels; once these channels are successfully established, users can make payments instantly. Instead of recording each individual transaction on the main blockchain, only the opening and closing of payment channels is recorded, which reduces the burden on the main blockchain.

This approach ultimately reduces the burden on the Bitcoin network and makes it work faster, as the network is not required to validate each transaction in real-time. Moreover, the transactions carried out through Lightning Network are considered more private as they are not recorded on the main blockchain, which is a layer 1 network and acts as a public ledger where every transaction is transparent and available to the public.

How to add BTC to your Lightning Network wallet

In order to make payments on Lightning Network, users must have a Lightning Network-enabled Bitcoin wallet that they can use to hold, receive or send Bitcoins. Some recommended LN wallets are Blue Wallet, Muun, Wallet of Satoshi, Phoenix and Cash App. These wallets are available for both Android and iPhone users. Here are some simple steps you can follow to equip your wallets with BTC:

i. First of all, you must have some Bitcoin (BTC) available in your regular Bitcoin wallet or exchange account. ii. Choose between a Bitcoin base chain wallet or a Lightning Network wallet to set up your wallet network. iii. Then go to the “receive” option and click on it. iv. Verify the transaction details v. Copy and paste the receiving address onto your wallet; alternatively, you can scan the QR code. vi. Once your Lightening Network has been successfully funded, you should recheck the transaction details to make sure you have received the expected funds. vii. Once your Lightning Network wallet is funded, you can use it to make cheaper and faster transactions without any delay.

How to make payments on Lightning Network

Once you have successfully funded your Lightning Network wallet, you can freely use it to make Bitcoin payments. For example, you can pay your restaurant bill using Lightning Network. To make payments or send or receive Bitcoin, users must first establish a channel between themselves. To create a channel, both users must lock a certain amount of Bitcoin in the Network. Once the funds are locked, users can send or receive Bitcoin instantly and without any fee. To have a better understanding of the Lightning Network, let's consider a real-world scenario. John and Sarah are friends who frequently send each other Bitcoins. Through the layer 1 network, they have to wait hours for transactions to be verified, so they decide to use the Lightening Network. To open a channel, they need to lock a certain amount of BTC. Let's say Sarah locks 6 Bitcoin in and John 10. The total amount of Bitcoin in the channel is 16 BTC. Once they have locked BTC, the channel is created. Now they can freely send each other BTC in seconds, provided the amount does not exceed the total balance of the channel. For example, if John sends 8 BTC to Sarah, Sarah now has 14 BTC. In this way, they can send each other BTC in a matter of seconds at a minimum transaction fee. Once they decide they no longer want to transfer BTC, they can simply close the channel. Using the Lightening Network, they have successfully made BTC transactions without much reliance on the main BTC blockchain.

Potential drawbacks of Lightning Network

I. Security risks

While the Lightening Network employs various security measures, it is still a new technology and there is always a risk of bugs, hacks and exploitations that could lead to the loss of funds.

II. Difficulty in Functional Scalability

In the lightning network, a channel involves only two parties. Someone that wants to make a transaction with a third party has to create another channel – a time-consuming process.

III. Risk of counterparty

When users go offline without closing the channel, a counterparty may attack the channel, steal the funds and close it resulting in a loss of funds for both users.

IV. Limited Network Reach

The Lightning Network is still in its early stages and not many businesses have adopted it which affects its widespread accessibility.

Conclusion

The Lightning Network has surely somewhat solved Bitcoin blockchain scalability problems. However, this technology is still considered experimental and users must not store a large amount of BTC in the Lightning Network wallet.