Understanding Layer 1 and Layer 2 Blockchains
Any user of the Ethereum network has likely experienced the often exorbitant transaction costs and the implications of these fees on a micro scale. Consider a scenario where a $100 fee is levied every time a customer purchases coffee. The economic feasibility of such a transaction is, of course, highly improbable.
Ethereum is what we refer to as a layer 1 (L1) blockchain, and its escalating transaction costs have become prohibitive for everyday users. In response, developers have introduced layer 2 (L2) blockchains, designed to expedite transactions and reduce fees while maintaining the advantageous features of Ethereum. In this exploration, we delve into the intricacies of L1 and L2 blockchains, distinguishing their differences and detailing how L2s, specifically rollups, offer solutions to the challenges faced by L1 blockchains. We also examine how each layer may serve specific use cases more effectively.
Layer 1: The Foundation
Layer 1, or L1, refers to the foundational layer of a blockchain. This is the layer upon which various decentralized applications (dApps), protocols, and additional layers are constructed. Popular applications such as Uniswap, Curve, and Sushiswap operate atop an L1 blockchain.
The primary responsibilities of an L1 blockchain encompass recording and validating transactions within the chain, in addition to safeguarding the chain from ill-intentioned actors. When an Ethereum L1 blockchain user sends 1 ETH to a friend, for instance, the transaction is recorded permanently on the blockchain, unalterable and accessible for viewing at any time.
L1 blockchains are typically categorized by their consensus mechanism, with Proof-of-Work (PoW) and Proof-of-Stake (PoS) representing the most common mechanisms. Bitcoin utilizes PoW, which relies on a network of miners who validate transactions to earn rewards. Meanwhile, Ethereum employs PoS, wherein validators stake collateral to validate the network and earn rewards.
Ethereum L1, for example, is generally deemed sufficiently decentralized due to its structure that allows anyone to stake ETH and become a validator. Its reputation for security stems from the high economic cost required to orchestrate an attack on the network, a deterrent for potential bad actors. However, the scalability of Ethereum's L1 presents a significant challenge. Congestion can occur when transaction volume surges, leading to slower transaction speeds and increased fees.
The phenomenon known as the scalability trilemma suggests that L1s can only optimize two out of three elements: scalability, security, and decentralization. This introduces an avenue for Layer 2 blockchains.
Layer 2: The Next Step in Scaling
Layer 2, or L2, refers to scaling solutions built upon Ethereum L1. These solutions aim to alleviate the scalability trilemma by facilitating faster transactions and lower fees, all while upholding the economic security inherited from the underlying L1. Notable applications like Uniswap and Sushiswap can also deploy onto L2s.
There are several forms of L2s, including state channels, sidechains, and rollups. This article concentrates primarily on rollups, as they have emerged as the most widely adopted and preferred L2 scaling solution.
Rollups operate by grouping multiple transactions from their L2 into a single batch transaction, which is then submitted to the L1 blockchain. This process allows for an increased throughput of transactions and alleviates the strain on the L1 blockchain. Moreover, the transaction costs are divided amongst the users, drastically reducing the expense of individual transactions.
There are two primary types of rollups: Optimistic rollups (ORUs) and zero-knowledge rollups (ZKRs). ORUs operate under the assumption that all transactions are valid, conducting fraud checks only when a dispute is raised within a seven-day challenge period. ORUs offer high throughput and low latency, as transactions are executed off-chain while maintaining compatibility with the Ethereum Virtual Machine (EVM). However, the seven-day challenge period for fraud proof can mean a seven-day wait for users wishing to withdraw to L1.
In contrast, ZKRs utilize zero-knowledge proofs to validate transactions without disclosing transaction details. While ZKRs offer stronger security guarantees than ORUs, they require higher computational power and are incompatible with the EVM. This necessitates the use of a specific smart contract language and potentially different user wallets.
Layer 1 vs Layer 2: A Matter of Suitability
Selecting between an L1 and L2 is not a matter of superiority; rather, it is a choice contingent upon the specific use-case an application aims to fulfill and the user profile of the chain. High net-worth individuals or institutions prioritizing security may opt for L1, while L2s could be more appealing for everyday users or applications requiring frequent transaction signings, such as gaming or trading platforms like IDEX.
IDEX represents the world's pioneering Layer3 derivatives exchange, uniquely balancing performance and security. It offers high performance and low fees while providing self-custody, ushering in a novel trading experience. To learn more, visit idex.io.