Blockchain Technology: Layer-1 and Layer-2 Networks | Gemini
To compete with legacy systems of payment processing, blockchain networks must become highly scalable — capable of accommodating an exponentially growing number of users, transactions, and data. Only by adequately incorporating scalability into their structure do blockchain networks stand to supersede other legacy systems. Layer-1 solutions add utility to a native blockchain to optimize its performance. Layer-2 solutions are third-party protocols that integrate with an underlying Layer-1 blockchain to increase transactional throughput.
While blockchain technology is proving itself to be a new pillar of the global economy, its underlying structure of decentralized networks faces a unique challenge known as the Blockchain Trilemma: the balancing act between decentralization, security, and scalability within a blockchain infrastructure.
Blockchain decentralization refers to the meaningful distribution of computing power and consensus throughout a network, while security reflects a blockchain protocol’s defenses against malicious actors and network attacks. Both are considered non-negotiable to the function of a blockchain network.
Also essential is scalability, which refers to a blockchain network’s ability to support high transactional throughput and future growth. Scalability is crucial because it represents the only way for blockchain networks to reasonably compete with legacy, centralized platforms with rapid settlement times. A commonly used comparison to indicate the gulf in scalability is that Bitcoin processes between 4–7 transactions per second (TPS). Visa, on the other hand, processes thousands of TPS. In order to compete with these existing systems, blockchain technology must match or exceed these high levels of scalability. There now exists an entire sub-sector of the blockchain industry that’s working towards improving scalability.
Thankfully, a whole new generation of blockchains and scaling solutions built specifically to solve this transaction-capacity problem is exponentially increasing the scaling limits of blockchain and making meaningful progress. These projects address scalability in two different ways: Layer-1 and Layer-2 scaling solutions.
In the decentralized ecosystem, a Layer-1 network refers to a blockchain, while a Layer-2 protocol is a third-party integration that can be used in conjunction with a Layer-1 blockchain. Bitcoin, Litecoin, and Ethereum, for example, are Layer-1 blockchains. Layer-1 scaling solutions augment the base layer of the blockchain protocol itself in order to improve scalability. A number of methodologies are currently being developed — and practiced — that improve the scalability of blockchain networks directly.
Here’s how it works: Layer-1 solutions change the rules of the protocol directly to increase transaction capacity and speed, while accommodating more users and data. Layer-1 scaling solutions can entail, for example, increasing the amount of data contained in each block, or accelerating the rate at which blocks are confirmed, so as to increase overall network throughput.
Other foundational updates to a blockchain to achieve Layer-1 network scaling include:
Consensus protocol improvements: Some consensus mechanisms are more efficient than others. Proof of Work (PoW) is the consensus protocol currently in use on popular blockchain networks like Bitcoin. Although PoW is secure, it can be slow. That’s why many newer blockchain networks favor the Proof-of-Stake (PoS) consensus mechanism. Instead of requiring miners to solve cryptographic algorithms using substantial computing power, PoS systems process and validate new blocks of transaction data based on participants staking collateral in the network.
With Ethereum 2.0, Ethereum will transition to a PoS consensus algorithm, which is expected to dramatically and fundamentally increase the capacity of the Ethereum network while increasing decentralization and preserving network security.
Sharding: Sharding is a mechanism adapted from distributed databases that has become one of the most popular Layer-1 scaling solutions, despite its somewhat experimental nature within the blockchain sector. Sharding entails breaking the state of the entire blockchain network into distinct datasets called "shards" — a more manageable task than requiring all nodes to maintain the entire network. These network shards are simultaneously processed in parallel by the network, allowing for sequential work on numerous transactions.