Ethereum's Layer 2 Technology: What It Is and How It Works

Ethereum's Layer 2 Technology: What It Is and How It Works

Reading Time: 5 Minutes

Is 1 layer not enough?

When it comes to crypto, one can safely assume that adding an extra layer to anything is a good thing. The same concept applies to Ethereum, as it, too, needs an extra layer. As the second-largest cryptocurrency by market capitalisation, it faces a common predicament faced by many big players - scalability.

Scalability is important. If you went to your favourite coffee shop and there were 500 people in a queue instead of 5, that's what happens when the Ethereum blockchain network is too busy. There are too many transactions and not enough space to handle them quickly, which causes transaction fees to be high and speeds to be slow.

Why does this happen? 

Ethereum’s layer 1, the main chain, is built for accuracy and decentralisation, not speed. It handles a lot, from smart contracts to decentralised applications (dapps) and security to decentralised finance (or DeFi). However, all this security and decentralisation comes at a cost.

Ethereum Layer 2?

Ethereum Layer 2 solutions are new blockchains, but think of them more like add-ons or extensions that help the main blockchain process more transactions at lightning speed. They take the heavy lifting off of Ethereum’s mainnet, allowing for faster transactions while still keeping things secure.

Try to buy something on the Ethereum blockchain directly from Layer 1 during a busy network hour. By the time your transaction clears, you might have paid more in fees than the thing you want to purchase! Here's why Layer 2 is more than just a nice-to-have:

• Scalability: The Ethereum network can handle about 15 transactions per second (tps), but Layer 2 can dramatically increase these numbers.
• Cost: With great popularity comes great gas (transaction) fees at times. Layer 2 reduces these fees, ensuring that you don’t pay a premium just to send a few dollars.
• Speed: Layer 2 solutions can process transactions much faster than the main blockchain, which means no more waiting hours for confirmations.

Layer 2 solutions are great because they can move a lot of the transaction data and computations off-chain. In other words, they handle transactions outside of Ethereum's mainnet but still finalise them on the main chain. It keeps Ethereum's security and consensus system safe. They come in a few different types, and each has its own flavour and style.

Rollups

Rollups process transactions outside the main Ethereum chain but post transaction data back on it. Think of it as doing your shopping (transaction processing) at a mall in the suburbs but getting your parking ticket validated (transaction finalisation) downtown. It can be divided into two main types. Optimistic rollups assume all transactions are valid unless proven otherwise and only run computations (in the form of executing fraud proofs) if someone claims a transaction is fraudulent. This optimism significantly reduces the processing transaction time. The other type is ZK Rollups, which uses zero-knowledge proofs to prove the validity of transactions outside the main chain. This method does not require the execution of transactions on the main blockchain unless needed, making it incredibly efficient.

State Channels

State channels allow transactions to occur directly between participants off-chain. It’s like having a tab at a bar; instead of executing and settling each transaction individually on the blockchain, which can clog the network and hike up the gas fees, users open a ‘tab’ (a state channel) to transact freely and privately off-chain. When they're done, they settle up - the only two transactions that hit the blockchain are the opening and closing of the channel. This method is fantastic for applications where numerous transactions occur between the same parties over a short period, like in gaming or recurring services.

Polygon (MATIC)

Polygon (previously known as Matic Network) provides a framework for building and connecting Ethereum-compatible blockchain networks. Think of it as a network of express lanes specifically designed to streamline traffic directly related to Ethereum transactions. It is also developer-friendly, with many tools and features that make setting up and managing dapps easier. This makes it a popular choice for devs who want to use Ethereum Layer 2 solutions.

Sidechains

Sidechains are different blockchains that run side by side with the main Ethereum network, connected by what are known as ‘bridges’. Think of them as neighbouring towns to a major city - each with its own local government and regulations, but connected by highways to the main city centre. The purpose of sidechains is to take some of the traffic off of the main Ethereum blockchain (Layer 1) by processing transactions on their own so that tasks on a sidechain can be done faster and cheaper because they don't have to compete with data from the whole network.

A Bright Future or Just Hype?

Layer 2 solutions could become the standard, affecting how transactions are handled in the future. There is a huge chance that more people and companies will use them as they look for cheaper and faster ways to deal with the blockchain. Over time, as technology keeps getting better, most of us may end up doing business in Layer 2 and not even realise we've left Layer 1.