Primer on L2 Scaling Solutions

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This research was originally posted on August 21, 2022.

What are L2 Scaling Solutions?

A Layer-2 scaling solution (also called "L2 protocols") are network protocols that improve the throughput (i.e., execution speed) of the underlying blockchain. These solutions require a new protocol layer on top of the blockchain, often open-sourced for dynamic use. These scaling solutions are commonly used to solve the underlying blockchain's transaction speed and scaling difficulties.

As blockchain usage has increased, particularly on significant networks like Ethereum and Bitcoin, the networks have become clogged and have slowed down. While Visa can handle nearly 65,000 transactions per second and Solana can handle 50k+ transactions per second, Ethereum can only process 30 transactions per second and Bitcoin just 5.

Several developers have sought ways to improve this but have been mainly unsuccessful in achieving high levels of security, decentralization, and speed on one blockchain (often referred to as the “blockchain trilemma”). L2s have been developed as secondary frameworks or protocols to help achieve a blockchain’s optimal scalability and efficiency.

The most common types of scaling solutions for L2 are:

  1. Payment channels: These establish a generally consistent payment between two parties over a blockchain, usually bitcoin, and

  2. Scaling networks: L2 scaling networks like Raiden allow users to create payment channels with multiple peers.

L2s Offload Work Via a Unique Network

L2s provide a supplementary portal where on-chain transactions and processes are independent of their L1 chain or “primary chain.” This is conducted not by altering the underlying blockchain structure but by adding a second layer directly on top ( referred to as “off-chain”). Depending on how specific L2s are implemented, this structure allows L2 scaling solutions for greater throughput without renouncing network security.

For example, an underlying blockchain offloads a chunk of the transactional load to an adjacent L2 scaling solution to process transactions. This scaling solution processes the transactions and reports back to the main chain, where results are finalized.

Several L2 Scaling Solutions Structures Operate

Although there are others, three examples are sidechains, nested blockchains, and state channels.

1. SIDECHAINS: These process transactions off the main chain but rely on independent consensus mechanisms responsible for validating transactions off the main chain on each sidechain.

Sidechains are contiguous to their primary L1s and use an autonomous consensus mechanism different from the original blockchain. The primary L1 is responsible for security, validation of batched transactions, and settling disputes. As the sidechain has its consensus mechanism, it so too has its own set of validators. Consequently, a sidechain is only secure if it has sufficiently many validators and a secure consensus mechanism. Also, a sidechain cannot operate without its parent blockchain despite having its consensus mechanism and set of validators.

  • Example of a Sidechain: Polygon PoS complements Ethereum’s decentralized security through a decentralized network of Proof of Stake (PoS) validators. Moreover, Polygon PoS is fully compatible with the Ethereum Virtual Machine (EVM), the platform developers use to create dApps on Ethereum. This allows dApp developers to deploy smart contracts directly on the Polygon chain, and these dApps can be easily transferred to and from Polygon and Ethereum. As per Polygon, Polygon PoS provides an average transaction fee of ~$0.0006, or approximately 10k times lower costs per transaction than Ethereum.

2. NESTED BLOCKCHAINS: These use the main blockchain to set parameters for the wider network but delegate transactions to a web of secondary blockchains accountable for executing transactions.

It is a network of connected secondary chains that execute transactions but still rely on an underlying L1 to set parameters for the network. In nested blockchains, there are various boss-employee relationships.

The boss delegates work, often in the form of transactions, to an employee, who will process that work and then return it back to the boss after completion. As transactions are processed off of the L1 in a nested blockchain, the processing load is eased, and the L1 consequently improves its scalability.

  • Example of a Nested Blockchain: OMG Plasma is a framework for moving transactions off of the Ethereum network into various “employee chains” that exist alongside the Ethereum blockchain and stimulate faster and cheaper transactions. These employee chains reduce the processing load on Ethereum and help the L1 scale better.

3. STATE CHANNELS: These process transactions off of the L1 on a secondary chain but utilize underlying smart contracts to execute transactions rather than validation from the layer-1 network.

State channels process transactions off the main blockchain to free up network capacity and increase speed. State channels do this, however, by shutting off bordering chain resources and instead utilizing smart contracts or a multi-signature (wallets that require two or more private keys to execute a transaction). Because the transactions rely on the underlying smart contract or multi-sigs to steer implementation, there is no need for node validation from the underlying L1 chains network.

  • Example of a State Channel: Harry wants to send Ethan a payment using an L1. However, a State channel is utilized to offload the work from the primary L1. The process begins with Harry and Ethan locking their funds in a smart contract that requires both their approval to execute. After verifying the commitment to make the payment, the smart contract executes and pays Ethan the specified amount. No third party is introduced throughout this process, and transactions are only visible on the state channel, enhancing privacy.

There Are Three Primary Layer-2 Ethereum Solutions

There are a variety of layer-2 scaling solutions. While many, like the Bitcoin Lightning Network, focus on blockchains other than Ethereum, there are precisely three primary L2 scaling solutions for Ethereum: Polygon, Arbitrum, and Optimism.

  1. Polygon’s primary product offering, Polygon PoS, is an example of a side chain. Polygon PoS complements Ethereum’s decentralized security through a decentralized network of Proof of Stake (PoS) validators.

  2. Arbitrum is an example of an optimistic rollup, a type of L2 scaling solution that grants any validator the ability to post a rollup block (loads of L2 transactions) and confirm the validity of other blocks. Compared to Polygon PoS, which is fully compatible with the Ethereum Virtual Machine, Arbitrum has its own custom virtual machine, Arbitrum Virtual Machine.

  3. Optimism similarly uses an optimistic rollup structure but is compatible with the EVM. Optimism offers gas fees that are 10x lower than Ethereum.

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