Frances Coppola spent many years working in banks and IT, and now writes and speaks about finance, banking and the economy.

Bitcoin proved unable to meet growing demand without deviating significantly from Satoshi Nakamoto's original vision of a "peer-to-peer electronic payment system".

It was intended to provide a fast, safe and inexpensive way to make payments without using the traditional financial system. Today, it still manages only a tiny fraction of Visa or Mastercard traffic, for example, but it has become crippling and very expensive.

Solving the problem of scaling bitcoin has become a major concern of developers. But the problem has proven intractable.

Now, making a virtue out of necessity, the buzz is that bitcoin is "digital gold". Its integrated limit of 21 million bitcoins makes it an ideal anchor for a hard currency financial system similar to a strict gold standard. A new payment system could be built on top of it.

The problem is that it is not possible to have complete decentralization, a fixed money supply and sufficient liquidity for an efficient payment system. This is the "trilemma" of bitcoin.

Silver still

In the gold standards of yesteryear, there was no trilemma. They were always centralized.

For example, the "classic" gold standard of the nineteenth century was the pinnacle of the British Empire, which at one time covered a third of the globe. The pound was the currency of international trade and was backed by gold.

The countries of the empire were forced to the gold standard by the British government; countries outside the empire joined the gold standard, or even adopted the pound sterling as currency, because it made trading much easier.

At the center of the web, the Bank of England has managed both the price of gold and the pound sterling. It was the most centralized financial system since the Roman Empire.

But for bitcoin, the fact that it is designed as a decentralized system means that something else must be given. And the index is its price rising fast.

Bitcoin becomes illiquid.

The increasing illiquidity of Bitcoin is due to a toxic combination of high demand, hoarding, and expected scarcity. The rapid rise in prices indicates that purchases have increased much more than sales. More and more people are buying bitcoin in the hope of enriching them as the price goes up, while those who already own bitcoins stand for the same life for the same reason.

People are also reluctant to spend their bitcoins, because this rapidly rising price means that they face tremendous opportunity costs.

And although bitcoins are still being extracted, the rate at which they are extracted is far from enough to meet demand – and anyway, miners too can HODL their bitcoins.

Meanwhile, the increase in transaction volumes is causing network congestion. Bitcoin has no way of adjusting capacity other than rationing verification. Miners check transactions with higher fees faster than those with lower fees. Those who want a quick check (which is almost everyone, since the price of bitcoin goes up so fast) will pay higher fees. Those who do not want to pay higher fees have to wait longer for their transactions to settle.

The popularity of Bitcoin therefore means both higher transaction costs and slower settlement times. The design feature designed to prevent it from reaching a hyperinflationary end leads to a deflationary stalemate. As Business Insider has asked, what is the point of money that you can not spend and that you can not convert to something else?

But is there a way around this problem? Smart people working on the Lightning Network think so. Their solution is to remove most transactions out of the chain and share the liquidity on the network.

Decline in the supply

Lightning is a decentralized network of bilateral bitcoin payment channels pre-funded by the bitcoin blockchain. Lighting transactions are generally small and most are not broadcast at the blockchain. They should therefore be much faster and cheaper than chain bitcoin transactions.

Assuming enough people open Lightning payment channels, there will eventually be a large bitcoin cash pool spread across the network. The question is how to activate it.

Lightning developers design a routing infrastructure that identifies network nodes with sufficient funds to make a payment, calculates the shortest path to the payment destination on those nodes, and sends the payment. If it works, it would solve the bitcoin trilemma.

But it is not certain that it will work. There are two potential problems.

The first is that Lightning's pre-funded canals secure funds that could be used for other purposes. For this reason, people can choose to keep very low balances in their lightning channels, frequently adding them rather than making infrequent balance adjustments.

And the second is that the financing of the channel is constantly changing. Typically, people would finance their channel and then pay off the balance gradually. Shortly after funding, there could be a sizeable balance, but only a few days later, the balance could have dropped significantly.

If many people finance their channels at about the same time – for example, if people finance their payday channels and then pay them back in the next month – the liquidity on the network can vary considerably. This would mean that sometimes, especially for larger payments, it may be difficult, if not impossible, to find a payment route.

So, Lightning could turn out as illiquid as Bitcoin.

Lightning's illiquidity problem could be solved by creating large, open payment channels that are always fully funded, so that they are always available for payment routing. But that would mean that Lightning was not completely decentralized.

Such "hub" channels would be more efficient for payments, but they would attract thieves and would be a weak point in the network. If one of them broke down, a lot of payments could be disrupted.

The alternative would be to allow the channels to become temporarily loss-making as a payment goes on. This would ensure that payments are always settled.

But as it is actually fractional reserve loans, this would violate the principle of the "gold standard" of bitcoin. If gold is needed to settle payments, and you do not have enough gold, you can not settle payments. That's how a gold standard works. This is also why it fails.

Lightning is always a work in progress, of course. But at present, it's hard to see how it can solve the three-pronged problem of bitcoin.

Image Neptune and Trident via Shutterstock