The Lightning Network is the next step in Bitcoin’s evolution.

Building sound money as a software engineering project is a daunting task. Software tends to get obsolete, often riddled with vulnerabilities. To persevere, Bitcoin had to adopt a staunchly conservative approach, resulting in heavy scrutiny by a great number of open-source developers.

The approach made Bitcoin stand the test of time (thus far), making it resilient and effectively immune against malicious actors. Yet, this same resilience, one which boosts Bitcoin’s proposition as ‘sound money’, comes at a cost.

The Bitcoin network (mainnet) supports 7 transactions per second (tps). And for them to become confirmed (irreversible), it takes 10 minutes. This is far from suitable for Bitcoin’s mass adoption as a daily-usage cryptocurrency.

The obvious solution would be to increase Bitcoin’s block size so that each block contains a far greater number of transactions, increasing the tps and lower transaction fees. Unfortunately, block size would exert more demand on miners, leading to network’s centralization as fewer nodes would have sufficient storage capacity.

The solution to this conundrum between resilience and scalability comes in the form of the Lighting Network (LN).

Lightning Network: Bitcoin’s Pathway to Original Vision

Originally, Satoshi Nakamoto envisioned Bitcoin as a peer-to-peer (P2P) money network, the first of its kind to solve the double-spending problem. This issue becomes acute with digital currencies, as all code is infinitely reproducible as pieces of bits.

There is no sound money in the digital realm without addressing double-spending risk first.

Bitcoin tackled it with the proof-of-work (PoW) consensus algorithm, wherein physical baseline (energy for computing) backs network security. As PoW grew and made transaction ledger manipulation exceedingly difficult, it became the source of Bitcoin’s resilience and investor confidence, but it also pushed Bitcoin’s scalability stagnation.

The Lightning Network pushes back, as a secondary transaction network attaching to Bitcoin’s mainnet. Just as Arbitrum or Polygon attach to Ethereum to offload transactions, so does LN to relieve Bitcoin’s mainnet traffic. And with lesser traffic, come numerous benefits.

These benefits are so transformative that the Federal Reserve Bank of Cleveland published a working paper in June 2022, dubbed “The Lightning Network: Turning Bitcoin into Money”. In other words, Bitcoin can evolve from a commodity to a currency without compromising its conservative security.

LN: Enabling Necessary Currency Ingredients

For any currency to have frequent usage, it has to have low friction. After all, if there is a heavy toll on the payment highway, transactional parties are less incentivized to use it. And if they are disincentivized, one is left with a digital commodity that you wouldn’t use for regular store payments.

The Lightning Network is an outgrowth of Bitcoin’s Segregated Witness (SegWit) upgrade that went online in August 2017. SegWit not only improved Bitcoin’s blockchain transaction storage, up to four times, but restructured Bitcoin’s transaction malleability.

By segregating signature data from transaction data, SegWit paved the road to LN development. It then became possible to implement secure off-chain payment solutions because signature data (witness) could no longer be altered without changing the transaction ID (TXID).

How Does LN Work?

Just as anyone can host a Bitcoin full node (entire copy of the network's transaction history), so can they host a Lightning Network node by installing open-source software. Alongside having a Bitcoin full node, users can then open LN payment channels.

LN payment channel is a smart contract (wallet) made possible by SegWit. The smart contract is created as a secure multi-signature Bitcoin transaction. In other words, the LN payment gateway is opened by sending BTC to a wallet that controls the conditions under which bitcoins are used.

For instance, to prevent cheating, the smart contract could enforce time locks. In the shopper-merchant equation, the shopper wouldn’t be able to close the channel prematurely. Another counterparty risk would be to forfeit all locked-in BTC, if the other party attempts to close the channel without the other party’s approval.

When the LN channel is closed, the smart contract submits all the settled transactions to Bitcoin’s mainnet as a single transaction.

Therefore, LN scales Bitcoin by conducting only two on-chain transactions:

• Opening LN channel by funding the smart contract wallet.
• Closing LN channel by submitting net transactions as one batch.

Between opening and closing the channel, the number of transactions depend on the initial funding and how that funding is used. Theoretically, this makes Bitcoin payments infinitely scalable. In turn, this is the critical transformative factor in making Bitcoin evolve from a commodity to a currency.

Benefits to Having Off-Chain LN Transactions

Because none of the transactions have to be immediately settled on the Bitcoin mainnet, Lightning Network offers immediate benefits for users and merchants:

• Near-instant transactions comparable to Visa/Mastercard in-store point-of-sale (PoS) settlements.
• Negligible transaction fees. Typically, using LN payment channels exert a few cents per transaction, in contrast to high 3% fees from card companies.
• Global permissionless payment access, as no inter-banking intermediaries are involved that could prohibit payments. LN simply attaches to Bitcoin’s global peer-to-peer network, making it ideal for anyone who is unbanked or wishes to avoid the fragile central banking system. In time, this could even open the doors to traders using US forex brokers without a bank account.
• Enhanced security. Because LN is an extension of Bitcoin’s mainnet, settled transactions become as secure and irreversible as if using the Bitcoin mainnet itself. But without the 10min confirmation time and higher fees. Merchants receive an additional bonus as no chargebacks are possible.
• Enhanced privacy. Whenever there is a centralized repository of information, it is vulnerable to data breaches. Because LN relies on Bitcoin’s cryptography and P2P network, not only is there no need to supply personal information, but Bitcoin wallet owners are the only ones who can authorize transactions.

Emerging solutions like NiceHash Pay are further streamlining the implementation of the Lightning Network, making it easier than ever for e-commerce platforms and merchants to accept Bitcoin. These advancements are not only lowering the barriers to entry but are also fast-tracking Bitcoin's evolution from a commodity to a functional, everyday currency—for both consumers and merchants.

With that said, one should keep in mind some exceptions. If the end-goal is to not send BTC but fiat currency, then third-parties are involved to make conversions. Case in point, LN payments app developer Strike partnered with Bitnob app in Africa to facilitate remittances.

However, even with the BTC-to-fiat conversion by third-parties linking with local banks, Lightning Network’s ultra-low fees still make it the most attractive global money network. Via traditional money networks like Western Union, sending money can have prohibitive friction of up to 10% per transaction.

This would translate to a $10 loss on every $100 sent. As Lightning Labs builds more tools for developers, LN apps will have greater use cases. For example, AI agents can already receive and send Bitcoin via Lightning Network.

It is not difficult to see an entire financial infrastructure develop, where one would no longer have to rely on understanding stock chart patterns. Instead, LN wallet users could authorize AI agents to conduct trades of tokenized stocks, at game-breaking low fees.

Conclusion

Bitcoin is the story of the evolution of money. The survival of the fittest depends not on the survival of the “best”, but on the survival of the most adaptable to a specific environment. In the central banking landscape, Bitcoin gained monetary ground as an asset that is tamper-proof.

After all, the purpose of money itself is to provide reliable units of information.

Bitcoin achieved this with cryptography and proof-of-work consensus algorithms. Combined with its limited coin cap and predictable inflation (halvings), Bitcoin goes against the central banking grain that tends to erode the value of money.

The Lightning Network represents Bitcoin’s next evolutionary step, built upon the SegWit upgrade. It allows Bitcoin to evolve from a store of value to a real-world currency with low transactional friction.