L2 solutions for Bitcoin (BTC) are one of the leading trends in the crypto industry in 2024
Bitcoin does not have extensive functionality, allowing only one to mine the BTC cryptocurrency and transfer it from one user to another.
One solution to these problems is Layer 2 (L2) networks, which this article will discuss.
What are L2 solutions for Bitcoin?
Bitcoin's architecture is such that its blockchain cannot be scaled up, such as increasing the block size to accommodate more transactions, changing the algorithm for calculating network complexity, or otherwise speeding up transactions. The mechanism of the Bitcoin protocol works so that as the total processing power of Bitcoin miners mining new blocks grows, so does the complexity of solving computational problems to validate transactions and add them to the blockchain.
Due to the impossibility of scaling, the Bitcoin network's throughput remains at 7 transactions per second. This means that when there is an increased load on the network (exceeding the number of transactions that miners can process), the mempool — the queue of transactions waiting for confirmation — grows. In this case, users compete to get their transactions written to the blockchain faster than others, increasing the network's average fee.
A vivid example is the popularity of ordinals (NFT on Bitcoin) and BRC-20 tokens, which caused the cost of commissions in the Bitcoin network to rise to $30 or even more for a while.
One solution to the Bitcoin blockchain scaling problem was Layer 2 (L2) solutions, which operate conditionally on top of the first cryptocurrency network. L2 solutions take some of the load off the Bitcoin blockchain, thus reducing the cost of BTC transactions.
The most popular L2 solutions for Bitcoin
It's worth noting that there are several types of networks in the L2 solutions category:
- Sidechains are networks that operate separately from the underlying blockchain, Bitcoin and have their consensus algorithm. For example, L2 networks, such as the Lightning Network for Bitcoin or Arbitrum and Optimism for Ethereum, have no consensus mechanism. Sidechains are also referred to as "semi-autonomous networks";
- State channels are a type of network that is not a blockchain in the usual sense. In such solutions, participants interact with each other directly through special channels. The blockchain records only the initial and final states of the channel after all participants have taken the necessary actions;
- Zero Knowledge or ZK-Proof networks. These solutions allow transactions to be performed at a separate layer, bundled into packets, and then sent to the underlying network for validation, reducing the cost of fees and increasing the speed of transaction processing.
In addition, besides the problems with scalability and bandwidth, L2 networks for Bitcoin solve another problem - improving functionality. The fact is that Bitcoin, unlike Ethereum, does not support smart contracts and does not allow the creation of applications for autonomous work on the DeFi market, such as decentralized exchanges or credit protocols.
1. Lightning Network (LN)
LN is the first and most famous L2 solution for Bitcoin. It is focused on user privacy, which is why cryptocurrency exchanges have long refused to support this solution for accepting deposits and withdrawals.
Lightning Network is not a blockchain as such but a network of payment channels or, in other words, state channels. It works like this: two counterparties create a common payment channel and deposit BTC to a particular address with multi-signature support (both parties must sign the transaction to be successful). The counterparties can then conduct unlimited transactions with bitcoins stored on the multi-signature address without spending money on commissions. After all transactions are completed, counterparties close the payment channel, and a record with a recalculation of the wallet balance on each side enters the blockchain. In this way, users can make multiple Bitcoin transactions while paying for the fee only twice - when opening and closing the payment channel. This is especially important for transactions with small amounts because of the high fees in the Bitcoin network.
Work on the Lightning Network began back in 2015, but a working prototype of the network was launched only in 2018. According to the developers, the LN network can process up to 1 million transactions per second, and the transfers themselves are made almost instantly, which was confirmed in practice.
As of July 2024, the Lightning Network has 50,531 state channels open, and its capacity (the number of assets locked in state channels) is 5,197 BTC.
2. Liquid Network
Liquid Network is a sidechain launched in 2018 by Blockstream, which launched one of the most popular Bitcoin wallets, Green. In addition to scaling the Bitcoin network, the Liquid Network sidechain has functionality for issuing tokenized assets and smart contracts, allowing decentralized applications such as exchanges and marketplaces to be built on this protocol.
For example, bitcoin is represented as the Liquid BTC token (L-BTC) in the Liquid Network. The sidechain is managed by the Liquid Federation, a network of nodes that include centralized exchanges, large developers of decentralized projects, and other crypto companies.
According to the official Liquid Network website for July 2024, about 3,894 L-BTC are in circulation. Liquid Network has a small ecosystem comprising the non-custodial P2P exchange SideSwap and the Hodl Hodl credit protocol.
3. Stacks
Stacks is another Bitcoin sidechain distinguished by its consensus algorithm. However, unlike the underlying Bitcoin network, which uses Proof-of-Work, Stacks' L2 solution is based on the Proof-of-Trasnfer or PoX consensus algorithm, and the principal asset is not Bitcoin or its tokenized counterpart but its asset, STX.
The Stacks sidechain works with the Bitcoin blockchain: "stackers" (as consensus participants in the Stacks network are called) block their tokens, similar to what happens in Proof-of-Stake-based networks. Meanwhile, miners pay stackers to earn the right to verify blocks on the Stacks network and be rewarded in STX tokens.
According to DeFi Llama aggregator data for July 2024, the number of assets blocked in the Stacks protocol (TVL) is $95 million. The majority of TVL comes from the Zest credit protocol and the key DEX exchanges in the Liquid Network ecosystem — ALEX and Bitflow.
4. SatoshiVM
SatoshiVM is an L2 solution based on ZK rollups using zero-disclosure proof-of-concept. One of its main features is its compatibility with the Ethereum Virtual Machine (EVM), which allows applications to be ported from one network to another. In addition, SatoshiVM adds new uses for BTC, such as providing liquidity in the Decentralized Finance Marketplace (DeFi).
Like any L2 solution based on ZK roll-up technology, SatoshiVM collects transactions into packets and then sends them to the underlying Bitcoin network for validation, which allows for reasonably high transaction speeds. Similar networks in the Ethereum ecosystem, such as Arbitrum and Optimism, prove that ZK rollups are capable of high throughput.
According to the developers, about 4,500 BTC are blocked in the SatoshiVM network. This L2 solution released SARC20 format inscriptions in the Bitcoin network, similar to BRC-20 and ARC-20.
5. Rootstock Infrastructure Framework (RIF)
Rootstock is an L2 solution that supports smart contract technology based on the Ethereum virtual machine. The Rootstock network has its own Proof-of-Work (PoW) consensus mechanism and works with Bitcoin and Bitcoin miners.
Unlike other L2 solutions for Bitcoin, Rootstock is a blockchain with the same architecture as the Bitcoin blockchain. Rootstock works on the principle of federated mining: miners use the same computing power and hashing algorithm to mine on both the Bitcoin network and the RIF. At the same time, however, Rootstock does not boast a high throughput: the network can only process 10-20 transactions per second, which is relatively low.
Nevertheless, Rootstock expands the possibilities of Bitcoin applications through smart contracts and provides an entire infrastructure of decentralized applications called RSK Infrastructure Framework (RIF). For example, in December 2023, the developers of Uniswap, the largest decentralized exchange, announced their intentions to join the Rootstock ecosystem.
