What are second-level solutions?
Second-layer solutions (L2 solutions) are projects, applications, and infrastructure software technologies deployed on top of the underlying blockchains.
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What are the second-tier solutions for?
Blockchain has an inherent problem known as the “scalability trilemma.” It lies in the complexity of creating a simultaneously fast, decentralized and secure network. Therefore, developers often have to select and optimize a maximum of two components out of three.
Most blockchains are inferior to traditional centralized solutions in terms of transactions per second (TPS). For example, the bandwidth of the Bitcoin blockchain is 5-7 TPS, and the first version of Ethereum is about 15 TPS. According to various sources, the Visa network is able to process from 4,000 to 65,000 TPS(data of Visa itself). The PayPal average in 2020 was 488 TPS, and the peak was 1,000 TPS.
Theoretically, the easiest way to solve the problem of scaling the blockchain is to increase the block size so that more transactions can be included in it and the size of the commission can be reduced. Bitcoin Cash went this way.
Increasing the block size leads to centralization and requires a hard fork, which threatens to split the community and divide the network into two chains. Large blocks cannot be considered as a long-term solution to the scaling problem.
Another way is sharding, which involves the horizontal separation of network data. Section A interacts with one series of transactions, section B with another, etc. Dividing the system into more manageable segments (shards) allows you to increase network performance.
The main problems of sharding are communication and security. If you divide the blockchain into isolated segments, each shard becomes a separate network. Users and applications of different subdomains will not be able to interact with each other without the use of a special communication mechanism.
A security issue also arises in a segmented blockchain, as it is easier for hackers to capture one shard – due to the lower hashrate required to control individual segments (the so-called 1% attack).
After capturing a segment, attackers can route invalid transactions to the main network. Also, data in this particular segment may become invalid and be irretrievably lost.
Another approach to the problem is L2 solutions. They are frameworks built on top of existing blockchain systems. L2 systems can handle significant volumes of transactions, reducing the load on the core network and freeing up resources for other functions.
There are two main varieties of second-level solutions – channels and sidechains.
What are state channels?
The state channel is a second-level solution that allows participants to make an infinite number of private transactions outside of the main blockchain.
Unlike on-night transactions, operations in state channels are visible only to their users. Only the initial and final state of transactions are recorded on the main blockchain.
This approach significantly reduces the load on the main network – the channels are potentially capable of processing thousands of operations per second, providing a high level of security for the system.
How do state channels work?
Participants in the status channels enter into agreements that are verified by individual signatures. A smart contract is also created that processes the state of the transaction before it is moved to the off-farm.
Users can repeatedly send each other transactions outside the core network. At the end of the process, the participants sign the final transaction, which falls into a new block of the main network. To continue using the channel, you must reopen it with a unique cryptographic signature.
How are the state channels protected?
The state channel is verified by its participants and their mutual smart contracts. Upon completion of the off-chain exchange of transactions, the final state is recorded in a new block of the main network. Smart contracts protect transactions within state channels, and also act as “judges” in the relationships of participants.
Some channels use a timer that automatically updates or blocks the on-time state of transactions. At the end of the set period, the system automatically starts the final transaction, and then updates the main blockchain and closes the status channel based on the last verified transaction. Any new attempt to unlock the state channel creates a new encryption and restarts the timer.
What are the state channels?
Lightning Network (LN) is a concept of increasing network capacity and a payment p2p network for conducting microtransactions. It is deployed in the networks of Bitcoin, Litecoin and other cryptocurrencies.
LN consists of nods and payment channels. Each host can accept and send transactions, as well as act as a conduit for payments to receive commission income. You can send a transaction from one network participant to another only if there is a path from payment channels connecting the recipient and the sender.
The infrastructure of the Lightning Network is developing at a high pace. If in 2018 only a few dozen nods worked in LN, then as of April 2021, their number exceeds 19,000, and the number of payment channels is more than 40,000.
Developed since 2015, the Raiden Network project is an analogue of the Lightning Network for Ethereum. Raiden supports token exchange, it has an API to facilitate interaction with decentralized applications.
The network is currently in beta. The developers claim that with Raiden, the Ethereum network could potentially conduct more than a million transactions per second.
The Liquidity Network project is another analogue of LN. A demo version of the solution was presented by Swiss Ethereum researcher Arthur Garweiss in November 2017.
The Liquidity network allows Ethereum wallets to implement and use an off-chain protocol in the form of payment channels.
While solutions like the Lightning Network and Raiden have faster transaction speeds, they suffer from certain internal limitations. In particular, projects face the problem of rebalancing payment channels.
Dividing funds between balances inside and outside the network complicates the user experience, as it can be difficult for the latter to manage two balances for the same currency. In addition, the off-chain balance is distributed across multiple payment channels, which limits the amount a user can spend on a single transaction. Rebalancing implies the redistribution of funds from channels with excess bandwidth to those that require replenishment. Ideally, rebalancing occurs in the background to hide the seams between channels from the user. Automatic rebalancing requires the creation of expensive and complex routing structures.
Liquidity Network is distinguished from competitors by simple approaches to routing and rebalancing payment channels.
Plasma is a second-layer solution for scaling the Ethereum network, originally proposed by Joseph Pooin and Vitalik Buterin.
The technology involves the use of smart contracts and Merkle trees to create an unlimited number of child chains – copies of the parent Ethereum network. They unload the main blockchain, opening up the possibility of fast and inexpensive transactions.
Plasma is similar in principle to the Lightning Network: a set of smart contracts that allow many third-party chains to fix their state in a compressed form in the carrier (root) chain. Plasma uses economic incentives, including punishing the network-rejected block creator to prevent fraud.
In June 2020, OMG Network, a company working on scaling Ethereum, launched a beta test of OMG Network V1, based on the specifications of the latest version of Plasma – More Viable Plasma (MoreVP).
MoreVP scales Ethereum by grouping transactions and sending them through a set of smart contracts. The grouped data is verified and validated in a decentralized network of custodians. Grouping allows you to increase network bandwidth to thousands of transactions per second and significantly reduce their cost without compromising security.
Celer Network creates second-tier solutions designed to help solve the scaling problem. The founders of the project – former employees of Google, Amazon, Cisco and HP – claim that the performance of their platform can reach billions of transactions per second.
The Celer architecture, called cStack, has four main components.
- cApps is an application tier that helps you scale and keep users private.
- cRoute is a bridge router used for decentralized payments. The protocol has a high degree of fault tolerance, and its bandwidth exceeds the indicators of the Lightning Network and Raiden.
- cOS – data storage and tracking, dispute resolution and other operations.
- cChannel is a sidechain that increases liquidity and supports rapid state transition. This level of architecture is suitable for enabling decentralized exchanges, gaming applications, prediction markets, online auctions and insurance solutions.
What is a sidechain?
Sidechains are a technology that allows tokens and other digital assets of one blockchain to be used securely on another blockchain and then (if necessary) be returned to the original blockchain. Initially, the concept of sidechains was described in 2014 in a white paper,which was written by the developers of Blockstream.
How do sidechaunes work?
The sidechain is a separate blockchain with a two-way binding to the parent blockchain. This ensures the fungibility of assets with a given intensity. The parent blockchain is usually called the “main (main) chain”, additional chains are sidechains.
The user of the parent blockchain must first send the coins to the exiting address, where they are “locked” by the participants of the so-called “federation”, which is designed to exclude the possibility of spending them elsewhere. When the transaction is complete, the participants receive a confirmation, but for added security, this happens after a certain waiting period.
After that, the equivalent number of coins is transferred to the sidechain, and the user has the opportunity to spend them. When sending coins from the sidechain to the main blockchain, the reverse process occurs.
How is the sidechain protected?
Sidechains are responsible for their own safety. In the absence of sufficient mining power to ensure security, the sidechain can be hacked. Since each sidechain is independent, in case it is hacked or compromised, the damage remains within this chain and does not affect the main blockchain.
Accordingly, if the main blockchain is compromised, the sidechain will continue to work, but its binding to the parent chain will depreciate.
Sidechains need their own miners, who can be stimulated through “combined mining” – the simultaneous mining of two separate crypto assets.
What sidechauns exist?
Liquid Network is a bitcoin sidechain that functions as a settlement and payment network for cryptocurrency exchanges, market makers, brokers and other market participants.
The solution is built on the basis of Elements source code and uses Strong Federationtechnology. Liquid Network is a separate private blockchain with a two-way binding to the parent network. For money transfers, the so-called fictitious tokens (L-BTC) are used. They are tied to bitcoin in a 1:1 ratio.
The Liquid Network Federation consists of a group of exchanges, trading platforms and other financial institutions. Thanks to Liquid, users and members of the federation have the opportunity to send bitcoins between participating exchanges and wallets with support for this sidechain (for example, Green).
The RSK (Rootstock) platform is a bitcoin sidechain with a Turing-complete virtual machine compatible with the interface of decentralized applications on Ethereum. The launch of the main network of the platform called Bamboo took place in January 2018. The generation of blocks in RSK is carried out in the mode of combined mining with bitcoin.
Ardor is a blockchain platform for decentralized services of the second generation from the developers of Nxt. The beta release of Ardor took place in February 2017.
The key difference between the platform is the use of the Proof-of-Stake (PoS) consensus protocol. Ardor’s innovation lies in the use of multiple custom blockchains that rely on the main network.
User blockchains in the system are called “childchains”. Transactions coming from secondary chains are delayed in the main network only for 24 hours. After that, they can only be stored in archival notes, releasing the main blockchain. This approach allows you to achieve a high degree of scalability of the network.
Matic Network (now Polygon) is a second-level solution with support for the Plasma framework and a decentralized network of PoS validators. The project uses sidechains for off-line computing, which allows developers to create and maintain various dapps.
In July 2020, the developers of Matic Network announced that the Counter Stake CS-2008 testnet had reached a bandwidth of 7200 transactions per second.
In early 2021, the project was rebranded. The name was changed to Polygon, the strategy was changed towards creating a multi-chain system similar to Polkadot.
The project team is working on creating second-level solutions based on Ethereum.
In addition to its own developments, Matic PoS Chain and Matic Plasma Chains in Polygon implement support for Optimistic Rollups, ZK-Rollups and Validium.
Rollups reduce the load on the network by grouping transactions and moving part of the calculations outside of Ethereum – to sidechains. There are two main types of Rollups: ZK-Rollups and Optimistic rollups.
ZK-rollups generate cryptographic proofs (SNARKs) used to incorporate transactions into the blockchain and reconcile the states of the underlying network and the second-level chain.
Optimistic rollups run on the basis of an EVM-compatible virtual machine OVM (Optimistic Virtual Machine). It is able to deploy already existing smart contracts in Ethereum. Consequently, the widespread adoption of Optimistic rollups can stimulate further growth of the DeFi sector in the short and medium term.
The Optimism project is actively working on Optimistic rollups, the launch of the main network of which is expected in July 2021.
Loopring and Deversifi are examples of decentralized exchanges using ZK-Rollups. The developers of zkSync plan to launch an EVM-compatible version of this second-level solution on the testnet in May 2021.
Rollups can coexist with the second version of Ethereum, increasing its performance and bandwidth.
Validium. Similar to ZK-Rollups, this solution uses proofs of validity, however, the data is not stored on the main Ethereum network. Validium circuits can work in parallel with each other. Thanks to this approach, the system bandwidth can reach 20,000 TPS. Withdrawal of funds is carried out without delay.
Disadvantages of the solution:
- limited support for smart contracts;
- high requirements for computing resources;
- Generating ZK-proof takes from 10 to 30 minutes.
Validium is used by Matter Labs and Starkware projects.
The above solutions can be combined, so many projects adhere to a hybrid approach to scaling the second level.
In October 2020, Ethereum co-founder Vitalik Buterin said that he did not expect a quick solution to the scalability problem of the main Ethereum network. He urged developers to focus on second-tier solutions that reduce the load on the network and increase the speed of transactions.
