Blockchain Scalability and Layer 2 Solutions
Solving the Throughput Challenge
Introduction
The most successful blockchains face a paradox: the more users they attract, the worse the experience becomes. Network congestion leads to slow transactions and high fees. Using Ethereum during peak demand can cost tens or even hundreds of dollars per transaction, limiting practical applications.
This scalability challenge has driven some of the most important blockchain innovation. If blockchains are to serve as global financial infrastructure, they must process far more transactions than early designs allowed.
This lesson explores the scalability challenge and the solutions being developed to address it while preserving security and decentralization.
Understanding the Scalability Problem
The Numbers:
- Bitcoin: ~7 transactions per second (TPS)
- Ethereum: ~15-30 TPS
- Visa: Can process tens of thousands of TPS
The gap is enormous. A single popular NFT drop can congest Ethereum for hours.
Why So Slow?:
The limitation stems from fundamental design choices:
- Every full node processes every transaction
- Every node stores the complete blockchain
- Blocks have limited size
- Block intervals provide security
This redundancy makes blockchains secure and decentralized but creates bottlenecks.
The Fee Market:
When demand exceeds capacity:
- Users compete for limited block space
- Competition occurs through fees
- During high demand, fees spike dramatically
- Small transactions become uneconomical
Latency Matters Too:
Beyond throughput, speed matters:
- Bitcoin targets 10-minute blocks
- Ethereum averages ~12 seconds
- Many applications need faster finality
- Payments typically require sub-second confirmation
Layer 1 Scaling Approaches
Layer 1 scaling changes the base protocol itself:
Increasing Block Size:
The simplest approach—bigger blocks hold more transactions:
- Bitcoin Cash forked from Bitcoin partly over this issue
- Larger blocks mean larger storage and bandwidth requirements
- Increases node operation costs
- Potentially reduces decentralization
Sharding:
Dividing the blockchain into parallel chains ("shards"):
- Each shard processes a subset of transactions
- Validators assigned to different shards
- Shards share security but process independently
- Ethereum's roadmap includes sharding for data availability
Challenges:
- Cross-shard communication complexity
- Ensuring security across shards
- Maintaining composability
Alternative Consensus:
Different consensus can increase throughput:
- Solana claims thousands of TPS using Proof of History
- But requires expensive hardware to run validators
- Fewer validators = more centralization
Different Architectures:
Some projects experiment with fundamentally different structures:
- DAG-based systems (IOTA, Nano)
- Parallel execution models
- Hybrid approaches
Layer 2: Building on Top
Layer 2 solutions process transactions off the main blockchain while inheriting its security.
The Key Insight:
Not every transaction needs to be recorded on the main chain:
- Parties can agree on outcomes off-chain
- Only post summaries or final states to the main chain
- Main chain serves as final arbiter in disputes
Benefits:
- Dramatically increased throughput
- Lower fees
- Faster confirmation
- No changes to base protocol required
Security Model:
Layer 2s inherit main chain security because:
- Users can always exit to Layer 1 with their funds
- Fraud can be proven and punished
- Main chain is the source of truth
Types of Layer 2:
Different approaches suit different use cases:
- Rollups: General-purpose computation (most common)
- Payment Channels: Repeated transactions between same parties
- Sidechains: Independent chains with bridges (weaker security model)
Rollups Explained
Rollups are the dominant Layer 2 approach, particularly for Ethereum.
How Rollups Work:
- Transactions are executed off-chain
- Results are compressed/batched
- Summary data is posted to the main chain
- Main chain stores enough data to verify correctness
Optimistic Rollups:
Assume transactions are valid unless challenged:
- Transactions posted without immediate verification
- Challenge period (typically 7 days) allows fraud proofs
- If fraud detected, invalid transactions reverted
- Examples: Arbitrum, Optimism
Characteristics:
- EVM-compatible (easy to port existing applications)
- Longer withdrawal periods (waiting for challenge period)
- Lower computational requirements
ZK (Zero-Knowledge) Rollups:
Use cryptographic proofs to verify correctness:
- Mathematical proof demonstrates valid execution
- No challenge period needed
- Faster finality
- Examples: zkSync, StarkNet, Polygon zkEVM
Characteristics:
- Immediate finality once proof verified
- Higher computational requirements for proof generation
- Historically less EVM-compatible (improving rapidly)
Rollup Adoption:
Layer 2 adoption has grown significantly:
- Multiple rollups now process more transactions than Ethereum mainnet
- Major DeFi protocols deployed on rollups
- Lower fees attract users and applications
Payment and State Channels
Payment channels enable unlimited transactions between parties with only two on-chain transactions.
How Payment Channels Work:
- Open channel: Lock funds in smart contract on-chain
- Transact: Exchange signed messages off-chain updating balances
- Close channel: Final state posted on-chain
Between opening and closing, unlimited transactions occur with no on-chain fees.
Lightning Network:
Bitcoin's Lightning Network is the most prominent payment channel network:
- Users lock Bitcoin in payment channels
- Payments route through network of channels
- Enables instant, near-free Bitcoin payments
- Useful for small, frequent transactions
Network Routing:
Payments can route through multiple channels:
- Alice → Bob → Carol → Dave
- Even without direct channel, payments find paths
- Routing fees are minimal
Limitations:
- Requires both parties to be online to transact
- Liquidity must be locked in channels
- Routing can fail if channels lack capacity
- User experience challenges
State Channels:
Generalize payment channels beyond simple transfers:
- Any state can be updated off-chain
- Gaming, voting, complex applications
- Useful when same parties interact repeatedly
Sidechains and Bridges
Sidechains are independent blockchains connected to a main chain through bridges.
How Sidechains Work:
- Assets move between chains via locking/minting
- Sidechain has its own consensus
- Can be optimized for specific use cases
- Example: Polygon (technically a "commit chain")
Security Model:
Sidechains have different security than rollups:
- They have their own consensus mechanisms
- If sidechain is compromised, assets on it are at risk
- Security does NOT inherit from main chain
Bridges:
Bridges enable cross-chain asset transfers:
- Lock assets on source chain
- Mint equivalent on destination chain
- Central to multi-chain ecosystem
Bridge Risks:
Bridges have become significant security risks:
- Complex smart contracts with large value
- Multiple bridge hacks have resulted in billions in losses
- Single points of failure for cross-chain assets
- Security only as strong as weakest link
Notable bridge exploits:
- Ronin Bridge: ~$600M
- Wormhole: ~$320M
- Nomad: ~$190M
Key Takeaways
- Blockchain scalability is limited because every node must process every transaction
- Layer 1 scaling through larger blocks or sharding involves decentralization and security trade-offs
- Layer 2 solutions process transactions off-chain while inheriting main chain security
- Rollups (optimistic and ZK) have become the dominant Layer 2 approach
- Payment channels like Lightning Network enable high-throughput for repeated interactions between parties
Summary
Blockchain scalability presents fundamental challenges driving significant innovation. Layer 2 solutions, particularly rollups, have emerged as the leading approach for scaling without sacrificing security. Payment channels address specific use cases. The future likely involves modular architectures where different layers specialize, with main chains serving as settlement and security layers.