Scalability is known to be one of the biggest problems with the Bitcoin network. After all, Bitcoin can only handle about seven transactions per second. For it to become a true alternative to the current payment systems, it must be able to reach 50,000 transactions a second. That is very different from seven. The Lightning Network aims to achieve this type of scalability. This is one of the most promising proposed solutions to the scalability issue of Bitcoin.
The main idea driving the Bitcoin Lightning Network is that it is not necessary to actually store a record of each transaction within the blockchain. Instead of wasting time storing those transactions, the Lightning Network provides an additional layer on the blockchain. This layer is where users can create payment channels, with those channels connecting any two parties. The channels are just between two people, so they deliver nearly instant transactions with non-existent or extremely low fees. The channels can also stay in place however long the two parties need them. Another way of looking at it is that the Lightning Network cuts out the intermediaries in the transaction process, reducing time and cost.
The process of using the Lightning Network begins when two people decide that they want to be able to easily and quickly send money between themselves with minimal fees. These two people would then set up their own Lightning Network channel. To set up that channel, they would begin by creating a multi-sig (multi-signature) wallet. For those unfamiliar, a multi-sig wallet lets either party access it using their own private keys. After setting up the wallet, both parties will deposit a set quantity of Bitcoin.
Once the multi-sig wallet and the channel are set up, the two parties can perform as many transactions using the channel as they want. These transactions function by redistributing the funds that the two parties stored in their shared wallet. The actual funds do not change their distribution until the two parties close their channel. At this point, the algorithm in the Lightning Network will allocate the funds based on the most recent balance sheet that was signed by both private keys.
The information regarding balances on each channel of the Lightning Network is not widely available until the channel is closed. At this point, it gets published to the blockchain, but just including the initial as well as final balances. Essentially, the Lightning Network lets two users conduct as many transactions as they want outside the blockchain, recording the final result as a single transaction.
The most obvious benefit of the Lightning Network is the ability to scale and deliver low-cost transactions that are instant. To make it even more useful, widespread adoption would eliminate the need to set up channels just for sending funds to a particular person. Instead, the system will be able to automatically find the quickest route between you via channels with those you already connect with.
The Lightning Network definitely has the potential to make blockchain transactions adoptable on a wide scale.