Fast Transactions, Low Fees: Bitcoin’s Layer 2 and Sidechains
The Foundation
Bitcoin is a peer-to-peer electronic cash system that does not rely on trust¹.
A purely peer-to-peer version of electronic cash would allow online payments to be sent directly from one party to another without going through a financial institution — Bitcoin whitepaper
It avoids double spending in a permissionless public blockchain while removing the need for a trusted intermediary. Its main focus is security and decentralization¹. Its concepts work very well to enhance the resiliency of the blockchain but affect its usability. They are very efficient mechanisms to protect the blockchain from attacks and give the right incentives for its governance, but they are not optimal for certain usages, specifically micropayments².
Adding new functionalities requires the community to discuss and test them thoroughly; Bitcoin evolves slowly, which is good. However, some features hinder its adoption by commerce and the masses. An example is the network fees; they work well to keep the blockchain secure and quickly change to modulate variations in transaction peaks. They prevent spam messages and help support network security by keeping mining profitable while incentivizing more miners to join, thus increasing decentralization. These unpredictable fluctuations are natural on Web3 but not on Web2³.
Layer 2 and Sidechains
Bitcoin is a Layer 1 permissionless public ledger where everyone can see every transaction. This makes it super secure, but adding transactions can be slow because everything needs to be carefully checked. This makes transactions on Bitcoin expensive and time-consuming³.
Layer 2 is like a smaller notebook you keep for everyday spending. It tracks small payments between you and a group of people. You can quickly write down who owes who what without needing everyone else (including the blockchain) to see it immediately. Then, you can settle up with your group and record the final amount in the Bitcoin blockchain.
Bitcoin is the main vault for your valuables. It is super secure but a bit slow to access (as it should be). Layer 2 is your wallet for everyday spending. It is quick and convenient, but you eventually need to deposit or withdraw from the main vault.
Sidechains are another method for scaling Bitcoin transactions using the “modular thesis.” This approach breaks down transaction processing into separate modules, each handled by independent systems. While conceptually sound, the current implementations fall short:
- Rollups: designed to leverage Bitcoin for data availability, are not being used in production [as of the first quarter of 2024].
- Validiums and Optimiums: offer better performance but compromise security and rely on different blockchains, not Bitcoin.
- Other blockchains: existing projects are not built on Bitcoin but other blockchains (like Ethereum) or custom sidechains.
- Performance focus: running separate blockchains and using alternative data availability solutions (which may hinder security).
The modular approach holds promise, but current implementations deviate from the core idea and may introduce new security concerns.
Layer 2 and Sidechains brings for Bitcoin:
- Faster transactions: can be used for everyday purchases, making them quicker and cheaper and reducing the friction associated with commerce usage.
- Security relies on Bitcoin: the final tally still goes into the blockchain, so your money remains secure by Layer 1 itself (the majority of them).
- New functionalities: new features can be added to Layer 2 and sidechains, leaving the Bitcoin Blockchain (L1) evolving at its own pace. Rapid innovation and cheap experimentation are important to the evolution of any technology.
Layer 2 helps Bitcoin function more smoothly in daily (Web2³) life, like having a smaller wallet for everyday purchases that you can carry around instead of a bank vault for larger sums and stores of value.
Incomplete List of Layer 2 and Sidechains
This section is a live list of Layer 2 blockchains over Bitcoin. This technology has been evolving and booming recently, and I may have missed some new or interesting technology. Please let me know in this case; I'll gladly learn and write about it. Below is the incomplete list of Layer 2 blockchains and Sidechains with a one-liner extracted from their websites.
- Lightning⁵: a decentralized system for instant, high-volume micropayments that remove the risk of delegating custody of funds to their parties.
- Liquid⁶: a solution enabling the fast, confidential settlement and issuance of digital assets, such as stablecoins, security tokens, and other financial instruments, on top of Blockchain.
- Stacks⁷: allows builders to leverage the Bitcoin properties and create new use cases.
- Rootstock⁸: EVM-compatible smart contracts platform designed for a freer, fairer, and more decentralized world.
- Merlin Chain⁹: Unleashing Bitcoin’s Potential with Native L1 Assets, Users and Protocols.
- Dovi¹⁰: EVM-compatible smart contract platform designed to enhance scalability, reduce fees, and foster a more secure and decentralized financial ecosystem.
- Nervos¹¹: Built on RISC-V and secured by Proof-of-Work, CKB (Common Knowledge Base) is the most flexible and interoperable blockchain. It serves as the ultimate foundation of Nervos, a modular blockchain network built from the ground up to ensure outstanding security, decentralization, flexibility, and interoperability.
- SatoshiVM¹²: a decentralized Bitcoin ZK Rollup Layer 2 compatible with the EVM ecosystem and uses native BTC as gas. Introduces the EVM ecosystem to BTC, granting the Bitcoin ecosystem the capability to issue assets and build applications.
- BitVM¹³: enables a free market of second layers, potentially scaling Bitcoin to billions of users.
- Citrea¹⁴: is the first rollup that enhances the capabilities of Bitcoin block space with zero-knowledge technology, making it possible to build everything on Bitcoin.
- Alpen Labs¹⁵: Build on the most resilient foundation and anchor your application to the most secure man-made structure ever built.
Benefits and Trade-offs
Layer 2 solutions offer exciting possibilities but also trade-offs. They offer the advantages of scalability, faster transactions, and lower fees while also offering potential drawbacks like increased complexity and potential security considerations for certain implementations. However, one of the main collateral advantages is the benefit of creating a sandbox where new technologies can be tested, aggregated, and experimented with without compromising the Bitcoin Blockchain.
Benefits:
- Faster Transactions: lets you make small payments quickly (in seconds) and efficiently.
- Lower Fees: significantly reduces fees, making it more practical for everyday purchases and micropayments, boosting adoption.
- More Uses: it opens new doors for Bitcoin, allows the creation of new apps, and uses new technologies (privacy, interoperability, Dapps, etc.).
- Not a Replacement: it doesn’t replace Bitcoin; it works alongside it. For important transactions, you’ll still need the main Bitcoin network.
Drawbacks:
- Added Complexity: solutions can be more technical to understand than using Bitcoin directly.
- Security Reliance: while it might have security features, it ultimately relies on Bitcoin’s security for final settlements.
- Potential for Bugs: new features and functionalities introduced by Layer 2 and Sidechain solutions can harbor undiscovered bugs that could be exploited.
- Potential Security Risks¹⁶: using multi-signature bridges makes solutions susceptible to theft. Some solutions centralize entities for transaction processing, sequencing, and data verification. There is a potential for misuse. Many projects downplay the security risks and mislead users by comparing their solutions to more secure modular designs used in other ecosystems.
- Marketing buzz: some modular Bitcoin sidechains are transparent about their centralized nature, which is acceptable for users who understand the risks. However, my criticism lies with the ones that are deceptive about it and are not transparent enough to fully disclose this aspect of their system.
In summary, Layer 2 and Sidechain are great ways to make Bitcoin more user-friendly for everyday transactions. They’re faster, cheaper, and open up new possibilities. However, they’re a bit more complex and don't always rely on Bitcoin’s security for ultimate peace of mind.
Stay tuned for more! In the next posts, I'll explore details about each of them.
[1] The Blockchain Trilemma refers to the trade-off between 3 critical aspects of blockchain technology: Security, Scalability, and Decentralization. Bitcoin runs on a blockchain that prioritizes Decentralization and Security, which poses Scalability challenges.
[2] Micropayments are small financial transactions, usually worth less than a few dollars. They are often used for digital goods and services, such as articles, videos, games, and small physical goods, and can be a convenient and cost-effective way to pay for them. They can also be used when conventional payment methods, like credit cards or Layer 1 transactions, are impractical due to high processing fees.
[3] I use Web2 as a reference for commerce based on fiat (from the Latin for “let it be done,” the word fiat is a binding edict issued by a person in command. It can gain an almost Biblical aura of authority), where you need to trust third parties (banks, governments, and others) to participate.
[4] This is by design. Transactions must be hard to mine (PoW) but easy to verify. When there is a peak in blockchain use, its fees (auction for block space) quickly adapt (increase) to modulate it. This prevents spam transactions that would lead to a Denial of Service attack. In layman's words, you must invest in its infrastructure to try to break it (if it is counterintuitive, you got the idea).
[5] Lightning Network: https://lightning.network/
[6] The Liquid Network: https://liquid.net/
[7] Stacks: https://www.stacks.co/
[8] Rootstock: https://rootstock.io/
[9] Merlin Chain: https://merlinchain.io/
[10] Dovi: https://dovil2.com/
[11] Nervos: https://www.nervos.org/
[12] SatoshiVM: https://www.satoshivm.io/
[13] Citrea: https://citrea.xyz/
[14] BitVM: https://bitvm.org/
[15] AplenLabs: https://www.alpenlabs.io/
[16] The new wave of Bitcoin L2s are sidechains, https://bitcoinmagazine.com/technical/bitcoin-layer2-sidechains
