At some point during your journey down the Bitcoin rabbit hole, you may have come across terms like “Lightning”, “Liquid”, “Layer 2”, or “Sidechain”. To avoid confusion between these terms, we will discuss the differences between Lightning and Liquid as well as how you may wish to utilize them in the future.
First, we will start with Bitcoin, the base layer. The Bitcoin network allows all transactions to be recorded, verified, and protected by the miners. Miners verify all new transactions about every 10 minutes while the nodes store each block of data. The base layer is the secured layer that enables other layers to be built on top of it.
A layer 2 network relies on the base layer (Bitcoin) to ensure transactions are secured. An example of a layer 2 application would be one that solves the scaling difficulties that occur with more users joining the network. The base layer of Bitcoin provides fund settlement within less than an hour. However, if a user wanted to make instant transactions with their bitcoin, they would need to use a layer 2 solution.
The Lightning Network is a layer 2 solution to process instant transactions on top of Bitcoin. With Lightning, we do not have to wait for the base layer to confirm each transaction. On-chain transactions (using a bitcoin address that starts with a 1, 3, or bc1) may take about 10 to 40 minutes to confirm. Similar to Bitcoin, Lightning has its own nodes to perform these instant transactions. Lightning is able to achieve this by using smart contracts that hold a private ledger between each Lightning node.
An example of this process would be if two people, Chad and Stacy, open a channel between one another. This channel can be thought of as a mini ledger on top of Bitcoin’s main ledger (the blockchain) where all transactions are recorded between the two. In this scenario, Chad and Stacy would each put 2 bitcoin (or however many they wish) into a smart contract. Chad can write to the ledger that he wants to pay Stacy 1 btc. She now has 3 btc while Chad has 1 btc. Stacy can also do the same. They may continue to shuffle bitcoin between one another for as long they like. Either of the two at any time can publish the current state of their channel to Bitcoin’s blockchain.
Why Should I Use the Lightning Network?
The Lightning Network is a viable option for those who wish to spend their bitcoin with retailers, friends, or family. Lightning also helps newcomers understand how Bitcoin can help the world use peer-to-peer systems and be less reliant on legacy systems like Visa and Mastercard. All transactions with Lightning can be made instantly across the world with very small fees.
A sidechain requires its own security properties to be built outside of the base layer. In essence, a sidechain is a separate blockchain that operates outside of its parent blockchain. Transactions can occur within its own network without needing to keep track of transactions that occur on the main chain.
The Liquid Network provides more private transactions made outside of Bitcoin’s base layer. With Liquid, one is able to create digital assets that are backed 1-1 with the value of each bitcoin. For example, L-BTC (Liquid Bitcoin) is created when BTC is moved to Liquid and then destroyed once moved off of Liquid and back onto Bitcoin’s base layer. In addition, stablecoins and security tokens can be issued and traded within the network.
Why Should I Use the Liquid Network?
Liquid Network users are typically institutions or traders who wish to move large sums of bitcoin between exchanges. This is one method to mask transactions from the base layer so that their trades cannot be monitored by other traders.
Most people will never need to use Liquid unless they wish to move a considerable amount of bitcoin. However, it is useful to know the difference between Liquid and Lightning. In the future, tools like Liquid may also be more heavily utilized and accessible for Bitcoin holders who have been in the space for a number of years.
Whether or not you are a bitcoin whale or just starting out, protocols, apps, and services built on top of Bitcoin will benefit each user in the long term. Companies and exchanges continue to adopt these protocols as well in order to onboard more users and build the network.