Layer by Layer: An In-Depth Exploration of Bitcoin’s Evolving Ecosystem (3 of 4)
Bitcoin Layers: Tapestry of a Trustless Financial Era is a research report on developments occurring throughout the Bitcoin Ecosystem. The report was authored by the team at The Spartan Group, Kyle Ellicott, and a number of experts who offered their feedback and insights and generously gave their time reviewing the final version you read today. This segment is the third of a series of four posts of the report.
Authors / Contributors
The concept of “Bitcoin layers,” introduced in 2018, represents a pivotal shift in Bitcoin’s evolution, tackling its scalability challenges. Historically, various endeavors aimed to enhance Bitcoin’s L1 have shared a common goal: facilitating off-chain transactions to improve the network’s scalability. These efforts are anchored around the secure settlement layer provided by L1. Bitcoin layers have emerged as a suite of solutions encompassing L2, Layer-3 (L3), Data, and Application layers, etc., drawing insights from Ethereum’s layered architecture. These innovations reflect the network’s adaptive response to its inherent limitations, showcasing a progressive approach towards a more robust and versatile blockchain infrastructure.
The emerging Bitcoin layers introduce a multitude of functionalities, transforming the network’s capabilities. These layers offer:
- Smart Contract Programmability: Enabling complex financial and contractual transactions directly on the Bitcoin network.
- Increased Throughput Speeds: Significantly reducing transaction processing times, with some layers achieving speeds of less than 30 seconds.
- Trust-Minimized Movement of BTC to L2: Facilitating the secure and efficient movement of BTC between layers, providing a solution to the centralization concerns of federated approaches.
- Cost-Efficiency: Lowering transaction costs, making Bitcoin transactions more accessible to a wider user base.
- Asset Issuance and Rollups: Offering new avenues for asset creation and transaction bundling for efficiency.
- Interoperability and Privacy Measures: Enhancing the network’s ability to interact with other blockchain systems and protecting user privacy.
- Virtual Machines (VMs) and Specific Features: Supporting various applications, including gaming, finance, media, and decentralized science (DeSci).
Strategically built upon Bitcoin’s L1, these layers leverage L1 as a foundational platform akin to ‘cold storage’ for the BTC asset. This layered structure not only allows seamless asset movement across different layers that unlocks Bitcoin’s $850B+ in idle capital. Consequently, applications leveraging these layers benefit from Bitcoin’s renowned security and stability.
As of Q4 2023, significant strides have been made in Bitcoin layer development, with notable advancements in L2 solutions. The ecosystem has expanded to include Sidechains, Drivechains, Merge-Mined Chains, and Proof-of-Stake Chains. This period also marks the emergence of a diverse array of protocols, token standards, cross-chain bridges, rollups, and other innovative solutions.
These developments are not just technical enhancements; they represent a paradigm shift in Bitcoin’s utility, opening new avenues for user adoption and application deployment. The layered approach underlines Bitcoin’s ability to evolve and adapt, cementing its position in a rapidly evolving digital world. The following sections detail key innovations within these categories, illustrating the dynamic and forward-looking nature of Bitcoin’s layered ecosystem.
Bitcoin L2s: The Big Four
The main Bitcoin Layers to exist have been led by the “Big Four” — Stacks, Lightning, RSK & Liquid. These four entities have collectively conducted the majority of L2 transactions, shaping the landscape of Bitcoin’s scalable solutions. Each of these L2 solutions has distinct features and functionalities, contributing uniquely to the Bitcoin ecosystem’s growth and scalability.
1. Stacks: The Bitcoin L2 project began in 2017 by Princeton computer scientists Ryan Shea and Muneeb Ali to enable smart contracts for Bitcoin. The initial version of the Stacks Network launched in January 2021, allowing smart contracts and decentralized applications to use Bitcoin as a secure L1. The Stacks Bitcoin L2 activates the Bitcoin economy thanks to its Proof-of-Transfer (PoX) consensus mechanism that runs parallel to and reuses the computational power of Bitcoin’s Proof-of-Work (PoW) consensus.
- The network is further secured by “Stacking,” in which Stacks token holders commit the network’s native STX token ($252.87M in the current Stacking cycle) to validate transactions, secure the Stacks network, and earn rewards in BTC.
- Smart contracts on Stacks are coded in Clarity, a native language that is human-readable and can respond to Bitcoin transactions and atomic swaps of assets with BTC.
- The STX token, which is used as gas on the L2, was the first-ever SEC-qualified token offering in 2019 and later decentralized filing updates with the SEC as a non-security before the 2021 mainnet launch.
- STX is a top 50 project and is the only Bitcoin L2 with a native token that is also listed in CoinMarketCap’s top 100 at the time of writing. It was ranked #38 for developer activity across the industry in the 2022 Electric Capital Developer report with an increasing number of monthly active developers since 2015, with 175 active developers in Oct. 2023.
Upcoming Catalysts:
- Nakamoto network upgrade (Q2 2024) will enable Stacks with fast & cheap BTC transfers on an L2 with 100% of Bitcoin security (reorg resistance). Additionally, transaction speeds on the network will improve from the current 10–30+ minutes settlement times that mirror Bitcoin to be reduced to ~5-second blocks, a 1,000x improvement in between two Bitcoin blocks. As of December 2023, two major milestones in the upgrades development had been achieved, v0.1 known as “Mockamoto” and Neon (v0.2) the ‘‘controlled’ testnet featuring a single miner, single Stacker, and Stacker signing.
- sBTC, a decentralized 1:1 Bitcoin-backed asset that can be deployed and move BTC between Bitcoin and the Stacks (L2) and used as gas in transactions without requiring additional assets. sBTC transfers are 100% secured by Bitcoin hash power. For a transaction to be reversed, an attack must be made on Bitcoin itself.
The resulting Stacks layer makes Bitcoin a fully programmable asset in a decentralized manner. In succeeding, it will drive more demand for both Stacks and Bitcoin. This can provide an environment for the Bitcoin economy to accelerate, unlocking hundreds of billions of dollars of passive Bitcoin capital and making Bitcoin the backbone of a more secure web3.
2. Lightning Network: Released in 2018 (whitepaper in 2016), Lightning enables micropayments on Bitcoin that can be sent instantly, anywhere, for little to no cost. Lightning’s significant transaction handling capacity and its increasing adoption underscore its role in enhancing Bitcoin’s scalability and transaction efficiency.
- The protocol leverages smart contracts to create payment channels combining on-chain settlement and off-chain processes.
- As a channel is closed, the transactions are consolidated and sent to the underlying network, Bitcoin. Lightning’s native asset is Lightning Bitcoin (BTC).
- The network is handling ~6.6M routed transactions in August 2023, or about ~213K per day, representing ~52% of the public capacity on the network. These approximate figures are a 1,212% increase since the August 2021 estimate of 503K Lightning payments by K33.
- Additionally, on average, Lightning is processing at least 47% of Bitcoin’s on-chain transactions daily.
3. Rootstock (RSK): Founded by RSK Labs in 2015, the network brought EVM-compatible smart contracts to Bitcoin through its RSK Virtual Machine (RVM). With RVM, developers can port Ethereum contracts on top of Bitcoin. RSK’s native asset is Smart Bitcoin (RBTC). RBTC maintains a 1:1 peg with BTC but is not trustless. It continues to depend on centralized custodians due to its security of blocks being based on “merged mining,” highlighting the trade-offs between security and decentralization in L2 solutions.
4. Liquid Network: Released in 2018 by Blockstream, the Liquid Network sidechain enables users to perform fast, secure & confidential transactions on Bitcoin. Liquid operates independently of Bitcoin and has its own ledger, and forgoing leveraging Bitcoin’s PoW consensus mechanism in favor of the Liquid Federation, made of ~60 members who serve as the creators of new blocks. Liquid’s native asset is Liquid Bitcoin (L-BTC), a “wrapped” version of BTC. This independent operation of Liquid Network showcases the diversity of approaches within Bitcoin’s L2 ecosystem.
Today, while no single Bitcoin L2 holds more than 10,000 BTC or boasts a user base in the millions, the potential for exponential growth remains vast, underscoring the critical role of these solutions in Bitcoin’s future scalability and functionality. As Bitcoin L2s improve technically, they have begun to open multiple pathways to enable rapid experimentation around BTC while maintaining the stability of the core network. The success of future L2 solutions hinges on their ability to offer full execution environments akin to EVMs, addressing the current limitations and fostering a more inclusive development landscape.
Navigating The L2 Trilemma
In the pursuit of unlocking scalability within the Bitcoin Layers, a new issue has arisen: the L2 Trilemma. Revisiting Blockchain’s Trilemma but applying it to Bitcoin L2s, we see that it remains all the same with slightly different tradeoffs. With the L2 Trilemma, the choices are limited to:
A. Be an Open Network or a Federation.
B. Introduce a new Token or not.
C. Have a full/global virtual machine (VM) or have limited off-chain contracts.
The industry has witnessed attempts to square this triangle to reuse the existing set of Bitcoin miners to mine the L2. RSK (formerly Rootstock) and Drivechains are examples of those making these attempts. In the approach, incentives for miners become an open question, similar to how gas fees, particularly in the early years, may not be enough for incentives.
- Lightning has chosen A and B but has no global state of full VM.
- Stacks has chosen A and C with a new token (STX).
- Liquid has chosen B and C, operating as a Federation.
Early discussions amongst developers have circulated around new Opcodes at Bitcoin (L1), which, in theory, could help square today’s triangle. The new op-code, like that of the op-snark-verify, could be used at Bitcoin (L1) to verify the computations of the L2. However, the historical challenges associated with implementing Softforks or Hardforks like this in Bitcoin suggest that this solution may not be feasible in the short term.
Looking ahead, the Bitcoin ecosystem will likely expand beyond the current handful of L2 solutions, with a need for hundreds more to fully explore and develop the network’s potential. For now, developers are navigating these choices to balance the tradeoffs in the L2 Trilemma. A trend is emerging towards leveraging open networks where anyone can mine and freely enter/exit, providing full virtual machine (VM) environments for smart contracts with the global state as essential properties. This approach, mirroring successful structures in other blockchain ecosystems like Ethereum and Solana, is expected to shape the future trajectory of Bitcoin’s L2 advancements.
Emerging Innovations
Rapid experimentation continues to occur beyond the established Big Four, surfacing numerous projects across infrastructure tooling, standards, and protocols. As the technical stack takes shape, filling the existing technical gaps in application demand, these innovations are actively introducing new categorical definitions.
Ark is an experimental L2 protocol introduced in May 2023. Ark allows users to conduct off-chain, scalable Bitcoin payments at low costs and anonymously through its always-on, trustless intermediary, the Ark Service Provider (ASP), that provides liquidity to the network. As transactions are conducted on the protocol, recipients can receive payments without acquiring inbound liquidity while preserving receiver privacy at lower costs than Lightning.
Babylon, released during Cosmoverse 2023, Babylon is a Proof-of-Stake (PoS) network comprising two security-sharing protocols between Bitcoin and other PoS networks, Bitcoin timestamping and bridge-less staking.
Botanix (Spiderchain L2) is a Proof-of-Stake (PoS) EVM for Bitcoin that leverages a distributed network of multi-signatures, facilitating a two-way peg with Bitcoin and enhancing its interoperability.
Interlay is a modular and programmable network between Bitcoin and multi-chain ecosystems, operating as a Polkadot Parachain. Interlay created a decentralized Bitcoin bridge that enables the minting of iBTC, or “valuated BTC,” its multi-chain 1:1 Bitcoin-backed asset.
MintLayer is a Proof-of-Stake (PoS) network designed to act as a sidechain to Bitcoin, optimized for DeFi-related activities, including atomic swaps. With MintLayer, there’s no need to use a wrapped version of Bitcoin or smart contract languages (i.e., Solidity, etc.) to create a token, as the network is UTXO-based and would require creating a transaction with additional data embedded into it. The network aims to produce a block every 120 seconds using verifiable random functions, with finality after 1,000 blocks.
Ordinals. Released in June 2022, the innovative Ordinal Theory framework sparked a cultural revolution towards building on Bitcoin. Only months after its release, in December 2023, developers took to Ordinals (Ord) which requires no separate side-chain, token, or updates to the Bitcoin core and enables Bitcoin inscriptions. Inscriptions that are immutable on-chain, non-monetary digital artifacts (i.e., Bitcoin NFTs) containing raw file data (videos, audio, images, executable software, etc.) that are permanently recorded on Bitcoin and can be transferred or sent to Bitcoin addresses, wallets, etc.
Ordinals’ dramatic growth has only grown exponentially, with new experiments, infrastructure tooling, and standards. In the year since the first inscription occurred on December 14, 2022, over 460K total inscriptions were inscribed during the first 90 days, and more than 46.2M year-to-date, driving ~3,365 BTC (~$148.8M) in fees during the period.
RGB Network (Really Good Bitcoin) is a Bitcoin-based protocol leveraging the Lightning Network and is not a token protocol.
Threshold Network is a privacy-focused merged network between Keep and NyCypher, allowing users to leverage Keep Network’s ability to secure private data through off-chain containers and NuCypher’s privacy tools for secrets management and dynamic access control. Threshold is the creator of the tBTC Bitcoin Bridge, a decentralized and permissionless bridge between Bitcoin and Ethereum.
These protocol experiments represent just a fraction of those developers are releasing every week. The continuous introduction of new protocols and standards indicates a vibrant and evolving landscape for Bitcoin’s technical stack. The momentum generated by these developments, particularly in the context of the upcoming Bitcoin halving event in Q2 2024, suggests a promising trajectory for further innovation and adoption within the Bitcoin ecosystem.
The Rise of Token Standards
On the heels of several emerging protocols, the community has begun experimenting with new token standards as well, giving an early preview of token designs that could leverage Bitcoin’s unique architecture. While in their infancy, it’s important to highlight those that have been introduced to developers and note the similarities to their counterparts in the Ethereum ecosystem.
BRC-20 is an experimental token standard created by DOMO and released in early March 2023 to create fungible tokens on Bitcoin. Utilizing Ordinal inscriptions and JSON data, this standard mirrors Ethereum’s ERC-20 model but is tailored for Bitcoin’s ecosystem with limited functionality. Several platforms soon followed, rapidly developing tooling and launchpads (ALEX, Bitget, Leather, OrdinalsBot, UniSat Wallet, Xverse, etc.) for the experimental token standard. Notably, the ORDI token, the first to be deployed under this standard, achieved a market cap exceeding $1B by May 2023, ranking #52 on CoinMarketCap with a market capitalization of over $1.3B at the time of writing.
BRC-721E is an experimental token standard similar to the widely adopted ERC-721 brought to life in collaboration between Bitcoin Miladys, Ordinals Market, and Xverse. In its initial state, the experimental standard allows users to bridge NFTs from Ethereum to Bitcoin, inscribing a less detailed version of the NFT with a link back to the original Ethereum version and airdrop capabilities. Once an NFT has been bridged, it will automatically appear on the Ordinals Market. The experiment opens many possibilities for cross-chain interactions between the two networks.
ORC-20 is an experimental open token standard with the intention of improving upon the BRC-20 experiment with backward compatibility between BRC-20, flexible naming space, and the introduction of UTXOs to prevent double-spending in future developments.
ORC-CASH is an experimental token standard based on the Ordinals Protocol, designed to best suit the UTXO security model and as a simplified version of the ORC-20 standard.
RUNES is an experimental fungible token protocol proposed in September 2023 by Ordinals creator Casey Rodarmor as an alternative to the BRC-20 standard. Runes intend not to rely on off-chain data or demand a native token but instead hold balances by UTXOs, and transactions are identified using specific script conditions.
SRC-20 is a token standard created by Mike In Space, known as Bitcoin Stamps (Bitcoin Secure Tradeable Art Maintained Securely), which are digital artifacts stored directly on Bitcoin’s blockchain and cannot be pruned as they exist in the UTXO set (unsent transactions).
STX-20 is an experimental inscription protocol standard released in Dec. 2023 for creating and sharing digital artifacts on the Stacks blockchain by embedding protocol information, limited to a 34-symbol limit, within the metadata of STX token transfers. The release of STX-20s led to one of the largest blocks to occur on the Stacks network with over 10,000 transactions.
Privacy and Security Solutions
In addition to scaling, developers have contributed great efforts towards bringing rollups to Bitcoin and adding a significant layer of security as well. While in early development, some of the notable experiments in the category include Urbit, Rollkit, ZeroSync, Alpen Labs, Bison Labs, Chainway, Kasar Labs, and many more.
Other experiments in the ecosystem include purpose-designed protocols and more, such as 1btc, BNSx, and Rooch Network, with new emerging categorical definitions such as Drivechains, Spiderchains, Federated Chains, Spacechains, and Softchains, each witnessing projects developed with the intent to contribute to the expansive technical stack.
These innovations enhance the network’s intrinsic value and position Bitcoin as a more versatile and secure platform. They are pivotal in scaling the network and improving its capacity to support various applications. As these technologies continue to evolve, they are expected to significantly contribute to the network’s ability to handle increased transaction volumes and diverse applications while maintaining the foundational principles of privacy and security. The end goal is to create a smooth enough user experience without worrying about the supporting infrastructure.
The Future of Finance with Bitcoin
Bitcoin layers, marked by advancements in Layer-2 solutions and privacy-enhancing technologies, are shaping a trustless financial ecosystem. These developments represent a significant shift in Bitcoin’s functionality and potential influence on the financial sector. With its enhanced privacy, security, and scalability, Bitcoin is poised to support a broad spectrum of financial applications, ranging from traditional trading to innovative DeFi solutions. This transformation underscores Bitcoin’s growing role as not just an asset but a foundational element in a more secure, efficient, and inclusive financial landscape. As these technologies gain adoption, Bitcoin’s contribution to a trustless financial system becomes increasingly central, cementing its position as a key pillar in the future of finance.
Author’s Notes (March 1, 2024)
The Bitcoin ecosystem has seen remarkable development since our initial report. Notably, Bitcoin’s value surged past $63K for the first time since November 2021, signifying a significant market rebound. Concurrently, the landscape of Bitcoin Layer-2 solutions (L2s) is expanding rapidly, highlighted by DWF’s tracker which now lists 28 new Bitcoin L2 projects. How can we accurately assess the potential of these L2s?
Bitcoin Magazine has established an editorial policy to define authentic Bitcoin L2s based on three criteria: utilization of bitcoin as the native asset, use of Bitcoin for transaction settlement enforcement, and a functional dependence on Bitcoin, which has sparked discussions.
This definition categorizes many emerging platforms, particularly those diverging towards decentralized expansions with their own tokens, as either ‘meta-protocols’ or ‘parasite chains’, rather than true L2 solutions.
Despite these classifications, the broader objective remains to enhance the entire ecosystem. Among the notable innovations capturing our interest are:
- Merlin Chain — Spearheaded by the team behind BRC-420 and Bitmap, this asset-centric L2 aims to bridge prominent L1 assets and their user base to L2, already boasting a Total Value Locked (TVL) surpassing $2B by late February.
- B-squared Network — This platform introduces a modular approach, combining zk-rollup as the execution layer with the B² Hub to integrate decentralized storage with the Bitcoin network, thereby forming a comprehensive ecosystem encompassing consensus, data availability, and settlement layers.
- BounceBit- It is a Bitcoin restaking chain where users can earn original CeFi yield while utilizing LSD for BTC staking and on-chain farming, basically ‘restaking’ on Bitcoin. TVL has also surged to above $500M this month with a successful fund raise.
- BOB — The project leverages the Ethereum Virtual Machine (EVM) to enable the creation and execution of smart contracts
- BEVM — Through Bitcoin light nodes and a combined POS consensus of Taproot threshold contracts to realize decentralized interaction between Bitcoin and BEVM.
- Citrea — This is a zkEVM on Bitcoin where proofs are inscribed in Bitcoin and optimistically verified via BitVM.
It’s worth noting that the rise of new Bitcoin L2 initiatives, mainly driven by Chinese teams and bolstered by large Chinese-speaking communities who bring large amounts of TVLs, indicates a significant shift in the Bitcoin ecosystem towards the East.
These projects have managed to improve cross-chain functionalities to Bitcoin, leveraging their previous building experiences for substantial growth. However, this surge also raises concerns about the potential for liquidity fragmentation across L2 solutions, as seen with Ethereum.
Conversely, there’s an opportunity to broaden the usage of Bitcoin assets and engage a larger base of Bitcoin users with these new platforms. Despite the similarities in many of these offerings, the future of Bitcoin L2s remains uncertain and dynamic, awaiting further developments.
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