Bitcoin, the leading cryptocurrency in the crypto space, has always lacked programmability, scalability, and popularity among developers. However, there has been a significant shift in this narrative.
To address Bitcoin’s scalability issues, various potential solutions have emerged, such as Ordinals, Inscriptions, BRC-20 tokens, and Runes. These additional features have sparked a surge in discussions, leading to a steady increase in Bitcoin’s transaction fees from $1.5 in 2022 to $4.2 in 2023 and $9.5 so far in 2024.
In terms of overall value, Ethereum holds around $45 billion, with a portion of its value locked up in Layer 2 solutions. This amounts to approximately 10% of Ethereum’s total worth. On the other hand, Bitcoin’s Layer 2 TVL holdings only represent about $2 billion or 0.13% of its entire value, which highlights the disparity between the two cryptocurrencies.
When evaluating Bitcoin scalability solutions, it is crucial to consider factors such as the trustless two-way bridge problem, the relationship with the Bitcoin base layer, potential fork requirements, and the alignment of incentives among users, developers, and crypto newbies.
To gauge the potential of Bitcoin Layer 2 solutions, we can look at Ethereum, the largest smart contract Layer 1, and its L2-focused scalability strategy. Incentive alignment throughout the stack is vital for the expansion and market share capture of Bitcoin L2s.
The development of core Bitcoin technologies like Taproot and BitVM has increased the potential for protocols based on Bitcoin. Although these implementations are still in their early stages, teams are continuously devising creative solutions to overcome Bitcoin’s scalability challenges.
Initiatives like RGB and Lightning Network, which are “Bitcoin-native,” aim to enhance Bitcoin’s peer-to-peer transaction capabilities and introduce smart contract functionalities to the chain. While RGB is still in its early development phase, Lightning has had some success.
Sidechains and EVM Layer 1s that utilize bridged BTC offer additional scaling options. However, these versions often include centralized components and cannot fully inherit Bitcoin’s security. They do, to some extent, leverage Bitcoin’s economic security.
A recent addition to the Bitcoin Layer 2 sector is zero-knowledge rollups, which utilize BitVM as their foundational technology to enhance the security of rollup data validation. Unlike other scaling solutions that merely post a hash of their data into Bitcoin blocks, zero-knowledge rollups inherit the highest level of Bitcoin security.
As Bitcoin’s expressivity continues to evolve and new DeFi primitives like money markets, stablecoins, staking & restaking, and perpetuals emerge, the relevance of Bitcoin Layer 2 solutions will only grow. Expect significant progress in the coming months, making it an exciting time for the industry.
It is worth noting that Bitcoin’s transaction costs have significantly increased, surpassing those of recent years, and the mempool is becoming more congested.
Although the Bitcoin Layer 2 ecosystem is still in its early stages, state channels like Lightning are considered the only protocols that can be considered “true L2s,” albeit with limited user tooling and functionality. However, numerous new initiatives are nearing completion and are expected to bring further advancements to the ecosystem.