I really do hope the slow DB query bottleneck can be ironed out before D-Day (API shutdown) happens.
I have a beefy server box so I think my server can handle the increased traffic (if it happens), but anyone on a VPS provider is going to get lots of timeouts and other nasty stuff when people try to signup and use their chosen instance.
That's not how it works. Instances don't cache images from other instances. If you hover your mouse over an image you can clearly see the site it's hosted on is in fact not originating from the instance you're browsing on. It works like Pleroma, Akkoma, Rebased, and other Pleroma forks.
IANAL, but I believe you can't be held liable for hosting links to other images on a site, regardless if they're embedded through the website's UI. They're not stored there, afterall. The client is rendering them.
All that gets cached, I believe, is the text and users from remote instances. And by cached, I mean stored in the postgres DB.