The introduction of Lightning Network (LN), which is a second layer to enable off-chain transactions on bitcoin, is expected to be a game changer in the cryptocurrency’s evolution. Once it is deployed across all nodes, the Network will speed up transaction processing and decrease their associated costs on bitcoin’s blockchain. (See also: What Is Bitcoin "Lightning Network"?)
Since the beginning of this year, the technology’s deployment has accelerated. As of this writing, there were 977 nodes running 1,827 channels on the Lightning Network. (There were an estimated 11,810 nodes on bitcoin’s network at that time, according to bitnodes.earn.com.).
But that relatively small number of lightning network nodes in bitcoin’s ecosystem still has not dissuaded publications from hailing the technology as a bitcoin savior. (See also: Bitcoin's "Pizza Guy" Repeats The Trick With Lightning Network.)
Those lofty expectations might need to be tempered. Measured by any standard, the technology is still nascent. It is still under development and its kinks are being ironed out.
“It’s not ready for (widespread) use as yet,” Thaddeus Dryja, who co-wrote the original whitepaper, told Investopedia. According to him, the concept for lightning network is “pretty proven.”
However, Dryja noted: “But I am not thinking about (widespread) adoption of the technology on bitcoin’s blockchain as yet."
Here are three problems that the lightning network could face as it comes out of the gates.
1. It Does Not Completely Solve Bitcoin’s Transaction Fee Problem
Lightning Network is often touted as a solution to the problem of bitcoin’s rising transaction fees. Its proponents claim that transaction fees, which is one of the direct consequences of bitcoin’s clogged network, will come down after the technology takes transactions off the main blockchain.
But bitcoin’s congestion is one among several factors that influence its transaction fees. Besides, the cryptocurrency’s fee itself is a large component of LN’s overall costs.
Specifically, there are two parts to its costs. The first part consists of a fee equivalent to bitcoin’s transaction charges in order to open and close channels between parties. Besides this, there is a separate routing fee to transfer payments between channels. Currently, the latter fee is set to zero because there are very few nodes using lightning. Dryja anticipates LN’s routing fee to remain low for a long time because the network is “quite scalable.”
But he admits that bitcoin’s transaction fees may increase due to reasons beyond LN. “Bitcoin’s transaction fees could go up again and hinder (lightning network) adoption (among merchants),” Dryja said.
This problem contrasts with the approach being taken by other cryptocurrencies to increase use. For example, Dash has free software plug-ins for merchants to download and use. According to Ryan Taylor, CEO of Dash, the nonprofit behind the cryptocurrency also helps merchants offset the costs of adding it to their payment methods.
2. Remaining Online At All Times Makes Nodes Susceptible
Nodes on bitcoin’s lightning network are required to be online at all times in order to send and receive payments. Cold storage of coins, which is considered the safest method for storing cryptocurrencies, is also impossible on a lightning network. According to some, this requirement makes them susceptible to hacks and thefts.
Going offline creates its own set of problems on the Lightning Network. According to Dryja, it is possible for one of the two parties from a payment channel to close the channel and pocket funds while the other is away. This is known as Fraudulent Channel Close. There is a time period to contest the closing of a channel, but a prolonged absence by one of the parties could result in expiry of that period.
An offline stance could also bring down the network. Taylor from Dash said the biggest issue with Lightning Network is “increased centralization” by concentrating funds in certain nodes within its network. In practical terms, this translates to a lock-up of user funds if one of Lightning Network’s nodes goes offline. “One server outage could feasibly cause disruption across the entire network, and it could cause a large number of users to have their funds frozen for days,” Dash said.
3. It May Not Solve Bitcoin’s Network Effects Problem
The advent of Lightning Network is also supposed to herald bitcoin’s viability as a medium of daily transaction. Customers will be able to open payment channels with businesses or people that they most often transact and conduct business transactions with. For example, they can open payment channels with their landlord or favorite ecommerce store and transact using bitcoins. (See also: Will Rising Transaction Fees Bring Down Bitcoin's Price?)
But bitcoin still has ways to go before gaining mainstream traction. The increase in its transaction volumes in recent months is largely attributed to a rise in trading volumes. As such, the overall effect of Lightning Network on reducing bitcoin’s transaction fees may be limited.
“Even if Lightning Network increases transaction speed, there’s still a question of how widely it will be used,” said Dr. Garrick Hileman, economist and founder of Mosaic, a cryptocurrency to incentivize academic research. “Bitcoin’s relatively greater price volatility means people are unlikely to hold their rent money in bitcoin.”
According to Hileman, bitcoin’s biggest problem is that very few people currently receive salaries in the cryptocurrency. “People are habituated to taking extra steps for acquiring investment assets, but not for acquiring their spending money,” he said.
How Lightning Network Makes A Difference To Bitcoin
Do these drawbacks portend the failure for the Lightning Network even before it is deployed widely? Not quite. The problem with current assessments of LN is that they are premature.
“If you are thinking that it (Lightning Network) will replace Visa and take over the world, then that’s not going to happen,” said Dryja, adding that even if a billion people were to use the technology simultaneously for daily transactions, then fees would skyrocket. According to him, lightning network is a “big factor” in helping bitcoin scale. “But you also need a bunch of other things such as SegWit and aggregated signatures (also known as Schnorr signatures),” he said.
Meanwhile, the technology’s core team has incorporated new use cases and is researching additional features. One of the most promising initial use cases to emerge involves cryptocurrency exchanges. According to Dryja, payment channels on Lightning Network can be used to facilitate micro-trades (as opposed to making micro-payments for daily transactions) between different crypto exchanges by customers. In this case, customers could conduct trades on well-known exchanges, such as Coinbase and Kraken, using accounts equipped with LN technology.
Other research is focused on plugging gaps in the existing system. For example, you can prevent Fraudulent Channel Close by showing other nodes that your counterparty was lying. If other nodes believe you, then you get to take all the coins in a channel, says Dryja. Similarly, the “Watchtower” concept is aimed at preventing the same fraud by enabling other nodes to watch channels, when a node goes offline.
The Bottom Line
The Lightning Network is a promising concept that will make a significant difference to bitcoin’s blockchain. But it is not a silver bullet to bitcoin’s current problems. Its introduction could also lead to other problems within the cryptocurrency’s ecosystem. Much depends on how the technology’s features and research develop in the future.
Investing in cryptocurrencies and other Initial Coin Offerings ("ICOs") is highly risky and speculative, and this article is not a recommendation by Investopedia or the writer to invest in cryptocurrencies or other ICOs. Since each individual's situation is unique, a qualified professional should always be consulted before making any financial decisions. Investopedia makes no representations or warranties as to the accuracy or timeliness of the information contained herein. As of the date this article was written, the author owns 0.01 bitcoin.