Overview of Layer 2 Scaling Solutions

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Layer 2 blockchains work by creating a second layer of transactions that are not stored on the main blockchain. Instead, they are stored on a secondary blockchain that is linked to the main, layer 1 blockchain, such as the Ethereum blockchain. Layer 2 blockchains, an example of this is called the Bitcoin Lightning Network on Bitcoin, handle their cryptographic computation off chain in order to lower transaction costs, improve transaction speed, and the overall time for processing transactions. The Bitcoin Lightning Network is a scaling solution that offers lower transaction fees, extremely high transaction throughput, and is responsible for the emergence of more complex transactions on the network with creating the first NFTs on chain.

Second, they use what’s called “state channels” to keep track of the transactions between pairs of users. These channels significantly reduce the amount of data needed to be stored on the blockchain, making the network faster and more efficient.  

Lastly, most layer 2 networks use a framework called “payment channels” which allow users to make payments without having to wait for each transaction to be confirmed by the blockchain, in turn making the network more user-friendly by creating much faster transactions. Payment channels are what you call the fraud proof layer of the Ethereum network and is an integral part of layer 2 scaling solutions.

There are several layer 2 scaling solutions that are currently being developed. These include payment channels, state channels, and side chains. Each of these technologies has the potential to help networks grow and scale. Payment channels can help networks process payments faster and more efficiently, state channels can help networks manage their data and operations more effectively, and side chains can help networks create new products and services.  

Payment Channels — Payment channels are a way to send value back and forth between two parties without putting the transaction on the blockchain. This feature has the potential to save a lot of time and money, as well as keep transactions private if desired. There are two main types of payment channels: layer 2 and off-chain. Layer 2 payment channels are built on top of a blockchain, while off-chain payment channels are separate from any blockchain.  

Layer 2 payment channels have the advantage of being more secure, as they are backed by the underlying blockchain technology, however, they can also be more complex to set up. Off-chain payment channels, on the other hand, are much simpler to set up, but they are not as secure. This is because they are not backed by any blockchain technology. If security is your top priority, then a layer 2 payment channel is the way to go. However, if you want something simpler and faster, then an off-chain payment channel may be the better option. 

State Channels — State channels are a type of blockchain technology that allows for fast, cheap, and private transactions. They are an important tool for scaling blockchains and can be used for everything from payments to smart contracts. Layer 2 state channel solutions have become increasingly popular in the blockchain space as they offer a way to scale without sacrificing decentralization or security. State channels are a key part of The Lightning Network’s layer 2 Bitcoin solution, which is one of the most well-known scaling solutions for the Bitcoin network.  

While state channels have many benefits, they also come with some risks. For example, if one party to a state channel goes offline, the other party may not be able to access their funds. Additionally, state channels are not yet widely adopted, so there may be limited options / opportunities for using them.

Overall, state channels offer a promising solution for scalability and privacy on blockchains. They are still relatively new, so there are some risks to consider. But as adoption grows, state channels could become an important part of the blockchain ecosystem as a whole.  

Side Chains — Side chains are essentially separate blockchain networks that are connected to the main blockchain. This allows for transactions to be processed off-chain, which can greatly improve scalability. There are a few different ways to implement side chains, but the most popular is probably the Plasma protocol. Plasma is a framework for creating side chains that allows for potentially unlimited scalability.  

Plasma works by dividing the blockchain into small chunks, or “blocks.” Each block can contain a certain number of transactions. Once a block is full, it is sent to the main chain for verification. This process is repeated for each new block, and then the side chain can scale to potentially millions of transactions per second.

This is a drastic improvement over the current scalability of most blockchains. 

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