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Bitcoin’s blockchain suffers from a scalability problem.
While Visa handles 2000 transactions per second on average, Bitcoin can only handle only 7 transactions per second with a block capacity of 1 MB.
Bitcoin - Lightning - Network - Effort - Scalability
Bitcoin’s Lightning Network is an effort to tackle this scalability problem.
The idea behind the Lightning Network is that smaller, everyday transactions need not be stored on the main Bitcoin blockchain.
Lightning - Network - Layer - Top - Blockchain
The Lightning Network is a second layer built on top of the main blockchain. It enables faster micro-transactions using ‘off-chain payment channels’. Using this off-chain approach, transactions deemed less important or peripheral are conducted off of the main chain.
Off-chain transactions using the Lightening Network only involve 2 entries on the main bitcoin blockchain — one to open a private ‘payment channel’ between two parties, and the other to close it out. A payment channel is a private channel between two users which allows them to transact with each other off-chain. Since the latest balance sheet signed by both parties is used to close out the private channel through a main chain transaction, the integrity of payments is maintained.
Bitcoin - Lightning - Network
Bitcoin’s Lightning Network visualized by https://graph.lndexplorer.com
To better understand the Lightning Network, let’s assume you purchase lunch from the same cafeteria at work every day.
Transactions - Cafeteria - Parties - Bitcoin - Blockchain
These routine daily transactions between you and the cafeteria (two parties that trust each other) need not be recorded on the main Bitcoin blockchain. Instead, you and the cafeteria deposit a certain amount of Bitcoin into a ‘Multi-Signature Account’ (aka ‘Multi-Sig Account’).
This transaction is recorded on the main Bitcoin blockchain. However, now you have a private off-chain channel to transact with the cafeteria. Transactions using funds from the Multi-Sig account can only occur when both parties agree.
Cafeteria - Sign - Transaction - Keys - Transaction
Both you and the cafeteria sign this transaction with your private keys. This transaction is recorded on the private channel and the Multi-Sig account now shows the...
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