Lightning Network Key to BTC’s Adoption: Federal Reserve Bank of Cleveland Document

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The Federal Reserve Bank of Cleveland recently published a working paper highlighting the importance of the Lightning Network (LN) in making cryptocurrency payments more widely adopted. Research has found a significant correlation between using LN and reducing blockchain congestion, proving that the protocol boosts Bitcoin’s effectiveness as a payment method.

How Lightning Network Evolves the Bitcoin Network

The Lightning Network seeks to remedy Bitcoin’s slow throughput while maintaining network security. Using it, millions of users can send bitcoin fractions simultaneously and at lightning speed. This helps solve the scalability problem plaguing Bitcoin as a means of payment, an issue that has primarily hindered its mass adoption.

The Lightning Network was introduced in 2016 but did not gain popularity until January 2018. The protocol operates as a secondary transaction layer, independent of the blockchain. Two users start an LN channel by adding Bitcoin to a smart contract. Then they can move coins between them without causing activity on the network.

Eventually, once their transaction is complete and the channel is closed, only the net amount is settled on the channel in one payment. Thus, only two transactions entered the blockchain, one to open the channel and the other to close it. Therefore, this allows the system to handle significantly higher payment volumes in this way.

Bitcoin Mempool and the adoption of Lightning Network and SegWit (Mempool size). Source: FRB of Cleveland Working Paper No. 22-19, 2022

The data from the working paper clearly details the effect of the Lightning Network on congestion and fees within the Bitcoin blockchain. The graph shows that prior to the introduction of the LN, pending transactions in the Mempool were, on average, above 50,000. Some peaks saw this value reach north of 200,000 around May 2017 and January 2018.

The Mempool refers to a holding area for Bitcoin transactions that a full node maintains for itself. Once a transaction is verified, it remains in this pool until a miner selects it and inserts it into a block. Upon the introduction of the LN, pending transactions in the Mempool decreased significantly, averaging well below 10,000. However, a slight drop in the number of LNs below 40,000 resulted in a corresponding increase in transactions in waiting.

Bitcoin Mempool and the adoption of the Lightning Network and SegWit (Mempool Fees). Source: FRB of Cleveland Working Paper No. 22-19, 2022

In addition to reducing congestion, the Lightning Network has also significantly affected the fees charged on the blockchain. Prior to the introduction of the LN, Mempool’s pending transaction fees were nearly $2.5 million. Subsequent charges barely reached $100,000, as shown in the table above.

Overall, the research suggests that the off-chain clearing benefits of the Lightning Network can improve Bitcoin’s scalability and payment functionality. The proper implementation ensures that Bitcoin can fulfill its original intent as a decentralized payment system.

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Growing adoption of the Lightning Network

The research data only covers a short period between January 2017 and September 2019. However, the Lightning Network has made leaps and bounds, proving to be an excellent layer 2 solution for the Bitcoin blockchain.

Source: Arcane Research

Hence, 2021 has been a big year for the protocol as it has seen increased adoption with the likes of Twitter integrating it onto the platform. The graph shows that network capacity has increased by more than 181% from 1058 BTC to 2968 BTC in the first eight months of 2021.

Theoretically, offering speeds of up to a million TPS at around 0.04 cents, demand for the protocol has been skyrocketing. As of December 27, 2021, the Lightning Network could handle a cumulative volume of $168.6 million, or 3,308 BTC. This is a 433% increase from the start of the year, which has led to questions about Bitcoin’s competition with other payment processing platforms like VISA.

Current estimates from Archane Research suggest that more than 80 million people had access to Lightning Network payments on an app installed in March 2022. Meanwhile, the number of payments has roughly doubled over the past year, while the value increased by more than 400%.

In conclusion, the Lightning Network has come a long way to address the scalability challenge that threatened to derail Bitcoin from its original vision. Its popularity is such that it is presented as a better alternative to other means of payment.

Additionally, its development and success has also resulted in greater adoption of Layer 2 scaling solutions for Layer 1 blockchains. Through various strategies, the issue of Blockchain Trilemmawhich poses a challenge to the blockchain ecosystem, can be resolved quickly.

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Do you think Lightning Network can put the Bitcoin blockchain on a par with other payment processing platforms like VISA? Let us know your thoughts in the comments below.

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