According to surveys conducted by ING, nearly 99 million people in Europe, America, and Australia alone intend to own Bitcoin in the future. Entities outside of the crypto currency world have started to adopt the underlying Blockchain technology and many retail/service establishments like Starbucks Coffee and several high-profile financial institutions want to incorporate crypto currency in regular transactions.
This means there’s an urgent need to scale the Bitcoin platform. It should be able to securely handle a large volume of transactions every second and carry out information transfer without significant delays. Most regular consumers fully expect modern transactions to be completed within a few seconds. Currently, Bitcoin and currencies like it don’t have the ability to carry out these lightning-fast transactions. To understand how this works, let’s take a brief look at how money works.
A Look At Layers of Money
Modern monetary value and transaction happen in layers. Most people know that the value of money used to come from a country’s gold reserves. Gold nuggets mined from the earth in their raw form are the most basic layer of money. The metal’s unique chemical properties, relative rarity, and the demand for it give it value. That’s one of the reasons gold has been used as currency for millennia.
Processed gold, which is purified, shaped, and rated, is the second layer of money. This is usually controlled by governments and sometimes private gold vendors. Real gold coins were used for transacting for a long time in human history but as the economy became more and more global, physically transporting large amounts of gold all the time is not optimal.
That’s where gold certificates come in. This is provided by banks in return for physical gold bars and coins. These certificates can be handled like money and be used in transactions if needed. Gold certificates are less secure because they’re more vulnerable to fraud. However, it is easier to transact with these certificates than it is with gold coins.
Payment providers such as Visa, MasterCard or PayPal are a layer even above that.
When we consider this model, Bitcoin is comparable to the first, basic layer. It is expensive and difficult to mine, the transaction requires reliable verification, transporting it from one entity to another takes time, and all transactions must be validated by everyone to ensure there are no duplicates. Many experts in the industry have rightfully pointed out that this process is very slow and very expensive.
Why Isn’t This System Scalable?
The Bitcoin network isn’t scalable on chain because the amount of work needed to keep the network running rises exponentially to the number of participants.
Visa processes anywhere between 2,000 to 4,000 transactions per second and has the capacity to process upwards of 55,000 transactions per second.
In order to keep up, Bitcoin would have to expand block sizes to hundreds of MBs, which is just not feasible. Large block sizes will overwhelm the nodes that process transactions. They would need unreasonably high internet bandwidth and storage capacity to keep up with validating and relaying the transactions.
The Lightning Network
The Lightning Network sits on top of the base blockchain as a second layer. It is much more scalable than the base layer because every transaction doesn’t need to be broadcasted and then recorded permanently. The interaction between the transacting parties is direct, verified, and stored in payment channels. Eventually, these channels are settled and the final balance is recorded as a transaction on the Bitcoin blockchain. This way a lot of transactions can merged into one, saving space on chain and scaling the networks capacity for transactions.
The payer can send payment and the recipient can receive it in a matter of seconds. There’s no waiting for miner confirmation that can hold up transactions for a long time in a busy network.
The risks increase because the recipient must be online to receive the payment as they need to sign the claim. If the recipient refuses to sign, the sender can reclaim their money. People need to monitor payment channels actively, which places some burden on users.
The Lightning Network is quite flexible and can be used by anyone who owns the required amount of Bitcoin to complete the transaction. The network improves the privacy of payments considerably because there’s no need to broadcast every transaction. Lightning Network also allows for micro transactions and makes them affordable.
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