We have all heard about Bitcoin, whether it was from a friend, on the news or social media. Bitcoin and the rest of the crypto market have grasped the public's attention many times over, with many believing that this asset class could be the start of a new financial system.

Since its formation, Bitcoin has been idealised as the currency of the future. 

But can it truly become a form of money, like the Rands or Dollars we use today? While there are some institutional investors that don’t believe Bitcoin can truly scale to the point needed to replace these fiat currencies, others do, and they are looking at the Lightning Network to prove it.

To understand the Lightning Network and its scaling abilities for Bitcoin, we first need to start at the beginning.

So let’s dive into what Bitcoin is, the limitations it has and how the introduction of the Lightning Network could be the answer to a fully decentralised monetary system.

‍What is Bitcoin?

‍Bitcoin can be described as a shared digital accounting ledger that runs on the internet. Picture a giant Excel sheet distributed across a global network of computers that always stays in sync. That means when you buy one Bitcoin from someone in another country, the ledger gets updated – and all the computers holding copies remain in sync.

The primary idea behind this technology is to allow anyone to send value to anyone else (peer-to-peer) in the world at a fraction of the time and cost when compared to traditional payment rails. For the Bitcoin Network, this value is sent in the form of BTC, the native token of the network. 

The Bitcoin network is unique because it is neither controlled nor owned by any institution or person. This means the network itself doesn’t require an intermediary to facilitate the transaction. This unique characteristic makes Bitcoin the first-ever public payments network available to anyone with an internet connection. ‍

Why would you pay with Bitcoin?

Why would you use Bitcoin as a payment when so many investors recommend holding on to your Bitcoin?

Bitcoin is a great long-term investment, but there are also situations in which it makes sense to pay with Bitcoin. Compared to fiat payments, Bitcoin payments on the Lightning Network offer low transaction fees and rapid processing.

Additionally, Bitcoin payments are a smart alternative to traditional wire transfers, which are typically associated with high fees and exchange costs. Due to Bitcoin's lack of government or intermediary involvement, transaction costs are generally lower compared to bank transfers, a huge advantage for travellers or businesses that deal with international clients. 

Bitcoin payments are also mobile, meaning users can pay anywhere they have internet access. Additionally, personal information is not needed to complete a transaction, as is the case with bank and credit card payments.

But, even as a payment system, Bitcoin has limitations.

What are Bitcoin’s limitations? 

Bitcoin has become the world’s most popular crypto asset, amassing institutional adoption and investment in its short 13-year lifespan. However, several problems limit its widespread adoption into people’s everyday lives as peer-to-peer cash:

• Fees – As block space is limited, mining fees can fluctuate wildly based on demand for transaction inclusion.
• Transactions per second – Bitcoin is only capable of approximately 5-7 transactions per second (TPS)
• Network congestion –  Slow block times and heightened use of the network can result in delays in transaction confirmations (taking anywhere from 10 minutes to 1 hour)
  

Bitcoin’s low TPS has created doubt for institutional investors believing it can become used as a means of payment, especially the scale at which payments will need to be made in the future. 

Centralised payment systems, such as Visa, can process thousands of transactions within the same timeframe.

This is where the Lighting Network steps in.
‍

What is the Lightning Network? 

The Lightning Network is a layer-2 scalability solution for Bitcoin’s blockchain that makes use of off-chain transactions (transactions not on the main blockchain network) to allow for unlimited, instant and inexpensive transitions to be made using Bitcoin. 

The Lightning Network aims to solve Bitcoin’s limitations by providing instant and inexpensive transactions while achieving a throughput of approximately 1 million transactions per second. 

The network does this by allowing transactions to happen in ‘channels’ outside of the Bitcoin base layer.

How does it work?

The Lightning Network uses channels to facilitate the exchange of Bitcoin between users. To transact, two parties must open a channel through which they can both submit funds. Once the channel is open, parties can use it to send BTC between themselves instantly and with near-zero fees. The two parties can then continue to transfer funds between one another indefinitely without informing the main network. 

When the channel is closed and settled on the Bitcoin base layer blockchain, the funds are distributed to each party in accordance with the transfer history of the channel, which is summarised as a single transaction on the Bitcoin blockchain. The only Lightning-related transactions broadcast to the Bitcoin network are channel opening and closing. This helps to free up block space, which results in lower network fees and more economic activity per block.

The direct payment channel between the two parties can also become part of the larger Lightning Network. If two parties do not have a direct channel, funds can be transferred via interconnected pathways. The network's lightning nodes look for the best route to complete the transaction.

For example, suppose your friend (with whom you have a channel) takes you to their favourite coffee shop (with whom they have a channel with, but you don’t). In that case, Lightning Network would allow you to route your payment through your friend’s channel when you pay for coffee without you needing to open a new channel with the coffee shop. This all happens in a few seconds and is not subject to long waits or high fees like on the main blockchain.

How is Lightning changing the world? 

The biggest beneficiaries of Lightning's success have been small businesses and individuals in third-world countries. Small businesses struggle to obtain bank accounts and can’t afford the fees that banks charge them in addition to the fees of card payments or online payments like Visa, which can be more than 2%. Lightning has enabled hundreds, if not thousands, of small businesses in Latin America to reduce operating costs and improve profitability.

Remittances are one of the world's greatest use cases of payment networks, as billions of people send money back to their families in foreign countries. Think of how many people work in first-world countries and send money back to their families in third-world countries. These people often pay 5-12% fees just to send a payment and wait days for the money to arrive. Instead, they can now use the Lightning Network, where the fees are near zero and payment is instant. As a result, we’re seeing more individuals, companies, and countries adopt this fast, affordable, and secure way of sending payments. While these are just a few use cases where Lightning is being used today, the options could be limitless in the years to come.