Those of you who have been following Bitcoin news know that the network needs a solution to its scalability problem ASAP. The Lightning network is one of the many solutions which could help Bitcoin scale and meet its users’ demands.
Before we explain what the LN (Lightning Network) is we need to understand why it’s needed and why it was created in the first place. The whole point of the Lightning Network is to help Bitcoin’s scalabilty problem by essentially bundling micro-payments into a single transaction. An example of bitcoin micropayments which are being used today are winnings from a bitcoin dice game after a roll, payments for CPC ad revenue, torrent file seeding, earnings from bitcoin faucets and much more.
To best explain how the Lightning Network can bundle micro transactions and increase the Bitcoin network’s efficiency we present a scenario. User Alice is playing a gambling game on Lucky.Bit, the way the game works, is you deposit some Bitcoins into any of the 4 addresses provided by LuckyBit and when a transaction is picked up going to that address a bet is placed and the game begins. When the bet is complete, a new transaction is formed which sends the reward back to the address that originally sent the coins for the bet. As such, if Alice wants to place a bet she will generate 2 transactions, one to fund the bet address and the other to receive the reward. Furthermore, Alice and LuckyBit each have to pay miners fees for their respective transactions which might be insignificant for a single transaction, but can add up quick when the numbers rise.
Each Payment from a dice roll and each claim from a faucet creates a brand new transaction, adding to the already congested network. What if you could bundle all those payments from a gambling dice game and after an hour of playing simply send one final transaction to receive the accumulated winnings. Currently there is such a solution for people using faucets to claim satoshis – Faucetbox.
Faucetbox is a 3rd party site which integrated itself with a network of faucets. Users simply put their faucetbox userid when claiming satoshis instead of using their Bitcoin address. As a result, Faucetbox bundles micropayments from faucets into a single transaction for when the user decides to withdraw their coins from the site.
The obvious drawback to a 3rd party centralized solution like Faucetbox is that it could be compromised and lose all of it’s users funds, this is where the Lightning Network comes in. The Lightning Network is essentially a decentralized FaucetBox but instead of only being useful for faucet transactions it is useful for any transaction on the Bitcoin network.
In order to understand what the Lightning Network is and how it works one must understand the concept of multisig addresses first and how transactions are formed. In layman terms a multisig address means that more than one person (signature) is required to authorize a transaction from that address before it can be executed and picked up by the network. Transactions are formed in 2 steps, first the owner of the keys which hold the bitcoins must sign a transaction authorizing the movement of those coins, next the signed transaction must be broadcasted to the network in order to be executed.
The Lightning Network begins by first creating a 2-of-2 multisig address. a 2-0f-2 multisig means that 2 people have to sign the transaction before it becomes valid and can be picked up by miners. In our case Alice would fund a 2-of-2 multisig address with 0.1 BTC which is what she wants to spend on gambling at LuckyBit. Next, Alice decides that she wants to bet 0.01 BTC and test her luck, she would sign a transaction sending 0.01 BTC from the multisig address to LuckyBit’s address, but that transaction would not get broadcasted to the network, instead it is saved like an IOU.
When Alice’s bet is complete, LuckyBit would sign another transaction moving the reward, in our case 0.02 BTC back to Alice’s address. Now, when Alice is done gambling she can close the payment channel and the respective balances of both Alice’s and LuckyBit’s addresses get settled in one transaction gracefully on the network. Since no mining fees have to be paid for each single micro transaction as it is never broadcasted, as a result Alice and LuckyBit can transact cheaply and instantaneously without congesting the network.
Keep in mind that the Lightning Network itself is decentralized and has no single point of failure. Unlike Faucetbox, LN will not be able to run away with users’ funds or let it’s database get compromised (since there isn’t a database). Furthermore, the Lightning Netowrk does not require cooperation from either party to exit the channel, both parties can close the channel and settle at any time. For more technical info regarding the Lightning Network visit this link: https://lightning.network/ and checkout their whitepaper.
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