What is Layer 2?
Layer 2 (also known as L2) is the general name for solutions developed on layer 1 and inherits the characteristics of layer 1 to serve the purpose of scaling blockchain.
Contrary to the common misconception that layer 2 is only for Ethereum, layer 2 can be developed on any blockchain that wants to meet user needs at a larger scale.
In fact, in addition to Ethereum, Bitcoin has the Lightning network to improve transaction speed. The BNB Chain community also plans to expand the network with layer 2 solutions and many other chains can develop layer 2 solutions in the future.
Why is layer 2 necessary?
It is no coincidence that most users mistakenly believe that layer 2 solutions are only for Ethereum. With the amount of value captured and the network effect far exceeding other chains, Ethereum has proven its success, but it has also highlighted the limitations of the network. High fees and network congestion are problems that users often encounter when transacting during peak hours on Ethereum.
In fact, Ethereum is not the only one that has problems with scaling, Bitcoin can only process an average of 7 transactions/second. Other chains like BNB Chain, Polygon, Avalanche also often experience congestion during peak times. All of these problems increase the need to develop solutions to help the network scale, and layer 2 is one of those solutions.
Layer 2 helps:
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Increase transaction processing capacity, reduce network congestion and improve user experience.
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Bundle multiple transactions into one transaction for processing to reduce gas fees and make it more accessible to users.
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There is no need to trade off features like security or decentralization for scalability because layer 2 is developed on top of the network.
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Develop a dedicated network that is suitable for the purpose of the network and can operate at scale.
Current scenario of Layer 2
Layer 2 can be a huge benefit, and may even be a requirement for layer 1 to scale. But given the nature of layer 1 and its legacy, layer 2 is only really necessary if layer 1 itself can attract value.
Developing a layer 2 for a layer 1 blockchain with no users is like solving a problem that doesn’t exist. To determine whether a chain’s layer 2 has real potential, we need to analyze the current state of the layer 1 blockchain that the layer 2 is built on top of.
Layer 1 does not support smart contracts
Layer 1 does not support smart contracts , most notably Bitcoin. To solve the scalability problem, Lightning network was developed. Lightning network is layer 2 of the Bitcoin network using payment channels.
Each channel in the network can process an average of 250 – 500 transactions/second and there is no limit to the number of channels that can join the network. With the current number of channels, in theory, Bitcoin’s Lightning network can process 20 – 40 million transactions/second.
It should be noted that the above figure only exists in theory, the problem of the Lightning network is currently how to popularize the use of BTC for large-scale payments. If BTC is not accepted and the Bitcoin network wants to develop in a different direction, the Lightning network will lose its value because the payment channel solution mainly serves the purpose of payment. If the Lightning network is no longer valuable, the Bitcoin network will return to the original problem related to the issue of scaling.
It can be said that Lightning network is like a one-way street that Bitcoin has chosen to go. If successful, it will help BTC become a widely accepted currency, if it fails, it will cause BTC to be left behind by later competitors, especially smart contract-supported blockchains that are developing very quickly today.
Layer 1 supports smart contracts
Looking at the 10 chains with the highest TVL (value locked) at the moment, it can be seen that Ethereum is far ahead of other chains in this metric, even Ethereum’s layer 2 is in the top 10 chains with the highest TVL.
Other layer 1 blockchains do not have layer 2 yet, however, the communities of some projects have proposed developing this solution for their blockchains. Typically, the BNB Chain community proposed developing a Zk Rollup solution to increase scalability and sidechains to serve separate purposes.
As the leader and pioneer of layer 2 solutions, each move of Ethereum has a great influence on the remaining blockchains. As presented in the article on Ethereum scaling solutions , the layer 2 Rollup solution is the most potential scaling solution today.
In terms of network effects, projects using Rollup solutions are also attracting the most value, and Rollup solutions are also the most supported in Ethereum’s development vision.
Rollup – the currently supported layer 2 solution
Rollups have two approaches: Optimistic rollups and Zk rollups.
1. Zk rollups
Zk rollups are considered a more complete solution, but due to the high technical difficulty, current layer 2s using Zk rollups do not support EVM (Ethereum Virtual Machine). Layer 2s using Zk rollups must develop their own products from scratch, which limits their ability to reach a large user base.
However, with its superior features, the Zk rollups solution still appears in prominent projects and attracts a lot of value such as dYdX, Loopring, ZkSync. In particular, the ZkSync project has announced the launch of ZkEVM, a separate layer 2 using the Zk rollups solution supporting EVM in late 2022.
2. Optimistic rollups
At the moment, layer 2s using Optimistic rollups are attracting the most value, notably Arbitrum One and Optimism with TVL far surpassing other layer 2s.
Arbitrum is a layer 2 scaling solution developed by Offchain-labs to solve congestion issues on Ethereum.
The Arbitrum ecosystem currently includes:
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Arbitrum One : Arbitrum’s main product, is layer 2 using Optimistic Rollups technology. In the near future, Arbitrum One will be upgraded to Arbitrum Nitro to improve platform performance.
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Arbitrum Nova : A separate chain focused on gaming and social built on AnyTrust technology and sharing codebase with Nitro.
Currently Arbitrum One is the most valuable layer 2 and has a large number of projects developing on top of it.
Similar to Arbitrum One, Optimism is also a layer 2 using Optimistic Rollups technology. Optimism also attracts a large number of projects to participate in the above development.
Projection on Layer 2
With Ethereum’s Rollup-centric roadmap and the current growth of layer 2 solutions, the market is likely to be a Rollup playground in the future. If the pioneering projects maintain their market share and continue to grow, they will create an incentive for new layer 2s using both Optimistic Rollups and Zk Rollups to join the race, thereby creating new profit opportunities and attracting cash flow.
These layer 2s do not necessarily have to be on Ethereum, they can be developed on BNB Chain, Solana, Polygon… However, the nature of the appearance of layer 2 is to help layer 1 increase scalability, so only layer 1s that attract real value can develop sustainably. This does not mean that other layer 1s cannot follow the “trend” and create layer 2s as well as related tokens, but users should carefully assess the risks when participating in these projects.
If layer 2 is the gold mine, then cross-chain bridge is the shovel. As more layer 2s emerge with new opportunities, the demand for cross-chain bridges will increase. Projects with good operating models and market access strategies will have a big advantage.
However, current cross-chain bridge projects are “delicious bait” for attackers with many hacks causing great damage to user assets. It is likely that these bridge hacks will continue in the future.
Conclusion
Layer 2 is an important solution to extend layer 1 blockchain to achieve larger scale. Currently, Ethereum is leading the development of layer 2 solutions, notably the Rollup solution. The race between layer 2 solutions is likely to become more and more exciting in the future.