In our current system, we have centralized, government bank run clearing houses that you cannot use (which Bitcoin could hypothetically replace). For a Bitcoin-based financial system, you can opt to pay higher fees and clear transactions on your own, or store your wealth in your own wallets and take on the management effort and fees in exchange for autonomy.

It's still trustless, decentralized, yadda yadda.

In what sense is a system where you hold all your bitcoins in a "bitcoin bank" decentralized or trustless?

The second layer solutions such as Lightning Network don't require you letting other people hold your Bitcoin. They're still decentralized and trustless.

But they also require observation for cheating because time matters in the execution of contract settlement when you have bad actors. It is still trustless though.

You've always had to protect against cheating though; what's changed? The standard advice from as far back as I can remember is to wait six confirmations on transactions, more for big transactions, and 120 for freshly minted coins.

The difference here is you can just wait long and you are good. In the case of lightning network there is a time limit. If you wait too long and don't notice what happened/ is happening you are cooked.

> In the case of lightning network there is a time limit. If you wait too long and don't notice what happened/ is happening you are cooked.

Could you expand a bit more on this?

Essentially, in the case we of somebody cheating you, they would broadcast a transaction co-signed by you that would close the channel in their favor. This wouldn’t be effective immediately but would have a time component associated from when the channel was opened. To prevent this state from closing out this way, you would be able to broadcast the proof of the actual offchain ledger balance (with the valid signatures for all transactions) and the co-signed transaction to close the channel. For all of this proof, you would also get to take the cheaters money, further disincentivisimg this behavior. However, if the time ran out before you noticed, none of you proof and signed offchain transactions would matter.

Right -- it would start looking like the traditional banking system, just sitting over Bitcoin rather than state-sponsored currency. (Not saying whether this is a desirable direction or not, just what I would expect to happen.)