Popular blockchains like Bitcoin and Ethereum have taken the world by storm but still suffer from many issues. These include high transaction costs and severe network congestion. To solve this, developers have created a unique method of using alternative blockchains to lighten the load on the “main” chains. These are known as Layer 2 (L2) blockchains. But what is an L2 and how does it work?
Introduction About Layer 2 Blockchains
A Layer 2 crypto blockchain acts as an “assistant” blockchain to other, larger blockchains. To understand this, imagine how a business functions. If you own a small business with no employees, you must take up several roles like marketing, finance and operations. This can work for a small number of customers but becomes unmanageable as the business scales up.
A layer 1 blockchain is like this small business, where every aspect of the network is carried out. This includes security, consensus, storage and finalisation of transactions and other such core functions. Layer 2s instead share the load by managing various elements of the transaction “off-chain” or away from the main blockchain. This helps blockchains like Bitcoin and Ethereum process thousands of transactions each second.
Read more: On-Chain vs Off-chain
How Does a Layer 2 Blockchain Work?
The primary process used by layer 2 blockchain projects is “bundling”. Bundling allows multiple off-chain transactions to be combined and processed together. To layer 1, it may look like a single block of data, but layer 2 has already processed and bundled thousands of transactions into it.
Layer 2s thus perform some parts of the layer 1 blockchain’s role separately, making the network much more scalable and accessible to users. This also helps in reducing the cost of transactions, since the network is capable of handling much higher loads.
Read more: What are Blockchain Layers
Components of Layer 2 Blockchain
There are three main ways a layer 2 can function, each with its own advantages and disadvantages.
These rollups run alongside the main blockchain, process transaction data and report it back to the main layer. If there is any fraudulent activity, it can be disputed through a fraud proof. In this case, the transaction will be re-run using the available data. This can extend the time taken to add the data back to layer 1, but users can still complete their transactions faster than layer 1.
Unlike Optimistic rollups, zkRollups create cryptographic proofs for transactions. These are known as zero-knowledge proofs, which only share whether a transaction is valid or not. The primary advantage of such a method is that it requires very little data to be shared back to layer 1.
However, zkRollups do not have full Ethereum Virtual Machine compatibility. This means there may be some restrictions on the types of smart contracts that can use zkRollups.
Sidechains like Polygon and Skale, while not layer 2s, are also widely used to improve the scalability of Ethereum. They run parallel to the main blockchains and maintain interoperability through “bridges” that connect them together.
They work separately from Ethereum, with different tokenomics and consensus. But they are still compatible through the implementation of the EVM. There is, however, a greater risk than rollups since you must depend on the sidechain’s operations.
Advantages and Disadvantages of Layer 2 blockchains
|Compatibility||Dependency on Layer 1 blockchains|
Advantages of Layer 2 Blockchains
The biggest advantage of layer 2s is that it does not affect the L1 blockchain’s functionality. This means most L1 blockchains can scale through an L2 without requiring any changes to their protocol.
A proper layer 2 solution helps resolve issues with the underlying layer 1 blockchain. This involves reducing network load and lowering the cost of transactions.
Layer 2s also increase the capacity of a network to handle more transactions. This can allow blockchains like Ethereum and Bitcoin to process thousands of transactions per second, compared to their base of 20 and 7 respectively.
Disadvantages of Layer 2 Blockchain
Dependency on Layer 1 Blockchain
Layer 2s cannot function on their own, they can only work as part of the L1’s main network. Thus, if you invest in a layer 2 blockchain, its success depends on the underlying network.
L2s can only process elements of transactions that are done through them. Since they cannot operate independently, they also have a limited set of features. They can thus be applied only in specific situations.
What are the Examples of Layer 2 Blockchains?
Loopring is a layer 2 scaling solution for Ethereum. It implements zkRollups (zero knowledge rollups) to dramatically increase the speed of the network while also reducing costs to just 0.1% of the original. Its token, LRC, is trading at $0.19 and has a market cap of $251,071,000 at the time of writing.
Read more: What is Loopring
Abritrum One is an ecosystem of L2 scaling solutions for Ethereum. It includes crypto wallets, dApp scaling and even DeFi support. Unlike Loopring, Arbitrum uses Optimistic Rollups to improve functionality.
Arbitrum One does not have any utility token and its release did not involve a token sale.
The lightning network is a layer 2 scaler for Bitcoin transactions. It implements smart contract functionality to combine transactions without worrying about block confirmation times or individual payments.
The network claims it can support millions of transactions each second, all at a very low cost.
Read more: What is Lightning Network
What is the Future of Layer 2 Blockchain?
Layer 2 blockchains are simple and efficient ways to solve the problem of scalability on older blockchains. In the case of Bitcoin, its growth seems dependent on L2 blockchains. However, with the upgrades planned for Ethereum, the need for L2s becomes less apparent.
Additionally, alternatives to Ethereum like Solana and BNB do not require scaling solutions as the base blockchain can handle the transaction volume. Thus, the future of Layer 2 blockchains is application-dependent.
Layer 2 blockchains are novel ways to boost legacy blockchain performance. But as technology and systems improve, the need for L2s reduces on most platforms. Its future remains uncertain, but until the day Bitcoin and Ethereum can handle tens of thousands of transactions themselves, L2s are cemented as necessary in the crypto world.
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