Crypto glossary
Payment channel
A payment channel lets two parties lock funds on-chain once, exchange unlimited payments off-chain between them, and settle the final balance later.
To open a channel, the two parties fund a shared 2-of-2 multisignature output on the blockchain. From then on, each payment is just a new commitment transaction, signed by both, that splits the channel's balance differently. These updates stay off-chain and can happen instantly and for tiny amounts. Only the opening and closing transactions are broadcast.
Channels are the building block of the Lightning Network, where payments hop across a chain of channels thanks to HTLCs, so users do not need a direct channel with every merchant. The same idea underlies state channels on other chains. Channels make micropayments, streaming payments and high-frequency transfers practical on networks whose base layer is slow or expensive.
To prevent cheating, each party must be able to punish the other for broadcasting an outdated state. That requires staying online or using a watchtower. Closing unilaterally locks funds for a delay period, and the capacity of a channel limits how much can flow in each direction. Opening and closing still cost on-chain fees, which matter when fees are high.
Example
Alice opens a channel with Bob funded with 0.01 BTC; over a month she pays him for coffee 40 times, and when the channel closes, a single transaction gives Bob his total and returns the rest to Alice.