On October 10th, the Blockstream social media channels announced the successful launch of the Liquid Network. In a nutshell, the project is a Bitcoin sidechain whose birth is due to a collaboration between Blockstream and 23 of the biggest institutional players from the industry. At a quick glance, one can spot on the list of participating entities names like Bitfinex, BitMEX, Coinone, OKCoin, and Xapo.
All of these parters have been picked carefully in order to create a geographically-diverse network which ensures a maximization of decentralization. Sure, the Liquid Network isn’t and will never be as decentralized and open as the Bitcoin protocol — but that’s not the point.
Why does Bitcoin need a sidechain? It’s all about scaling the king of cryptos to make it handle transactions in a more efficient way. The unexpectedly high demand during the fall of 2017 showed the protocol’s technical limitations, and the efforts to help the system scale have been prioritized to a great extent.
From SegWit to the Lightning Network, we’ve seen it all happen quite fast as opposed to the slow conservatism Bitcoin used to be known for. But this time we’re witnessing a project whose scope and practices differ very much from the previously-mentioned publicly-accessible solutions: Now it’s about the needs of Bitcoin exchanges.
Why does Bitcoin need Liquid?
If SegWit brought the block malleability fix which allows the blocks to increase in size in times of higher demand, and Lightning allows network participants to open payment channels for the purpose of settling transactions without bloating the blockchain, then Liquid is very different. First and foremost, it’s what Blockstream calls “a federated sidechain” — the governance is concentrated in the hands of a few institutional elites which engage in trade.
The idea is simple: Why validate each individual transaction on the main chain and take the risk of dealing with network congestion when you can take your operations on a sidechain and request for validations only when it’s necessary to do so? It’s a second layer for settlements which promises to deliver confirmed transactions within two minutes, provide greater efficiency thanks to a common ledger which exchanges share between themselves, and even enable private transactions where only the sender and the receiver are able to see the ongoing amounts.
Bitcoin exchanges often trade large amounts of BTC among themselves, and the operations can be unpredictable in terms of settlement time and fees. That’s why Blockstream brought this solution to these institutional actors: To create convenience and predictability while freeing up some space in the Bitcoin blocks. Ultimately, the adoption of Liquid is beneficial for both casual users who make transactions on the main chain and exchanges which choose the federated sidechain, as the reduced number of operations which miners process generates quicker validation times and lower fees.