An early version of Lightning Network, a layer two Blockchain technology, is now available for testing on Bitcoin’s testnet. With so much expectation on this latest iteration to scale the underlying Blockchain technology one may ask how does it work in practical terms and will it be able to deliver?
In other words, when will Lightning strike?
Go for a party
The easiest way to explain the principles behind Lightning is the working example below when we go for a drink in a bar.
So let’s go and party. We go for a drink in a bar and I hand over my Bitcoin Card. The barman as merchant uses to open a tab (transaction channel). The barman allocates say one BTC (so we are on for a good night) the network knows I have the net open balance funds to one BTC.
As the evening progresses, new drinks are added, essentially queuing the further transactions, and payment only happens when the final closing transaction is done.
The bar owner gets the spent one BTC balance immediately as the opening of the Tab creates an HTLC – Hash Time-Locked-Contract between the parties. Given the bar owner doesn’t know or trust me, payment is guaranteed.
The principle difference with Lightning is a bi-directional channel opened with the other party(s) where transactions can be queued, as opposed to propagating transactions to all Bitcoin nodes. The first transaction essentially opens the channel and the last one closes the channel committing it to the processing of the network, whether outgoing requests or incoming payments the ‘state’ is monitored, as the authenticated and encrypted transactions are made.
There are many very clever people working on Lightning as version 0.1 alpha is revealed the community to develop out this promising scaling solution for Blockchain that will struggle for mainstream adoption without it, and will be essential for Ethereum Serenity to move to PoS (Casper).
With SegWit struggling to gain acceptance amongst the Bitcoin miners, initial signs are that Lightning will require a lot more support to gain mainstream adoption. The number is likely to increase when new versions are available for testing.
Suffice to say that miners should be excited as although the current Bitcoin reward diminishes, and with Ether struggling for value, the volume increase and scaled throughput for processing should deliver more options for Ethereum miners but it is not yet clear the economic impact.
Instant payments for value
Lightning has come a long way since the original whitepaper by Bitcoin tech evangelist’s messers Joe Poon and Tadge Dryja who were looking to improve the performance of Bitcoin given the limiting nature of block size.
As Andreas Antonopolous said in a recent speech: “Lightning is a very exciting development and has the potential to Stream Money” – introducing the concept of what I refer to as “Instant Payment for Value”.
Is there any reason why people and entities cannot be paid in real time rather than the absurd system of 30 days invoices and salary; of course no, and technically could be done today, albeit middlemen and third party validators don’t allow it (or they wouldn’t have a role).
End game for Visa
Lightning and the nature of real-time Instant Payment for Value will be an essential development for IoT where machines will generate quadrillions of transactions per second and rather than end up with a huge backlog given current throughput, transactions can be cleared immediately. A structural shift in commerce that will deliver huge benefits creating market liquidity, will transform retail and levels the playing field for smaller businesses to get paid. Signally the end game for Visa and Mastercard.
Lightning can layer on top of a Blockchain and unlock Bitcoins massive potential. My favorite is mini-micro payments using the eight decimals places available for people to trade tiny amounts of value, where on the current Bitcoin payment rails is uneconomic to do so.
Instant confirmation relying on Bitcoins Net Open Balance principles (OTXU) and structural shift in commerce, eliminating the prevalent frictional model of debt, that enables third parties to make a fee for not doing much at all.
The other potential for Lightning and more work will be required will be to equalize the exchange of tokens as Altcoins between chains, also known as BlockTrading and ChainTrading.
In a sense, Lightning could diminish Bitcoins value, but with thousands of Altcoins coming into use with new Blockchains, new solutions are needed to bring Blockchains mainstream adoption.