The research arm of Bitcoin Mercantile Exchange (BitMEX), a Seychelles-registered and Hong Kong-operated crypto derivatives exchange, has published a report in which it reviewed the “market dynamics” of Lightning Network (LN) “routing fees.”

Researchers at BitMEX also looked into the “financial incentives” for LN full-node operators to “provide liquidity.” According to the report’s abstract, the research team at BitMEX managed to Identify a “major challenge” for the second-layer crypto payment protocol.

Currently, the “interrelationship and balance” between LN routing fees and investment returns for node operators may pose certain challenges which are not related to the “computer science aspects of the routing problem,” BitMEX’s report concluded.

Long-Term: “Competition Will Be Key Driver” Of Market Prices

“Investor sentiment” and “changes in interest rates” in financial markets could potentially affect LN fees charged by node operators – as the layer-two protocol for expediting crypto payments continues to scale, the report stated. In the long-term, BitMEX’s research team believes that “competition will be the key driver” of market prices and fees charged for processing LN-based transactions.

According to BitMEX’s market analysis, “low barriers to entry” could lead to lower fees for LN users – “rather than investment returns for liquidity providers.” Commenting on statements made by technical analysts, who claim that LN’s routing issues are “an unsolved problem in computer science,” BitMEX’s researchers state that they “do not really agree with this.”

BitMEX’s research team also argued that the solution to LN’s current routing problem would simply be finding the optimal paths between channels. This, BitMEX claims is “relatively straightforward” as it involves a basic implementation of peer-to-peer (P2P) networks such as that specified by the Bitcoin protocol.

Balancing “Liquidity Provision” And “Payment Routing” Processes

Going on to clarify that its recent report will not focus on technical, but rather economic aspects of the LN, BitMEX’s team wrote that they believe a major obstacle for the layer-two network will be balancing the process related to the provision of liquidity and payment routing.

The BitMEX research team has also argued that LN node operators must be properly “incentivized by routing fees” so that they “provide sufficient liquidity.” Should there be an imbalance in this process, it could prevent the network from functioning in an optimal manner, the report implied.

“Allocating Liquidity Specifically Where There’s Demand”

Suggesting how to approach this problem, BitMEX’s team wrote: “Liquidity needs to be allocated specifically to the channels where there is demand and identifying these channels may be challenging.” According to BitMEX, a persistent and significant issue the LN will face is “ensuring fees are high enough” to keep liquidity providers onboard – while also ensuring fees are affordable, or reasonable, for those looking to use the second-layer crypto payment gateway.

Based on what appears to be an exhaustive analysis, BitMEX’s researchers have estimated that LN liquidity providers can expect to earn an average “1% investment yield.” However, this is relatively low as crypto investors are generally looking for much higher returns, BitMEX claims. This, as the blockchain ecosystem is still considered a high-risk investment sector.

“LN Can Scale To Many Multiples Of Bitcoin’s Current Onchain TX Volume”

In summary, the report states:

While the investment returns for Lightning network liquidity providers do not yet look compelling, with the network in its formative stages, we do see potential merit in this business model.

It adds:

In our view, the Lightning network can easily scale to many multiples of Bitcoin’s current onchain transaction volume without encountering any economic fee market cycles or issues, all based purely on hobbyist liquidity providers … if we are forced to guess, based on the architecture and design of the Lightning network, we would say the system is somewhat rigged towards users and low fees, rather than liquidity providers.