The growth of DeFi has been phenomenal. It provides users with autonomy over their assets. It eliminates needed intermediaries. It has the potential to transform the financial industry permanently. But one problem still baffles users. Is it more beneficial to build or trade on Layer 1 or Layer 2?
Both layers are important in this case. Their operations are core to understanding the current speed benchmarks. It also helps in ascertaining costs. Lastly, it helps in determining the requisite security. Moving in DeFi is only possible after taking all of the aforementioned factors into account.
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Let us analyze the entire scope.
What is DeFi?
DeFi is the abbreviation of decentralized finance. It operates on the blockchain. There are absolutely no banks or brokers. Everything is conducted via codes.
Everything is possible without the need to ask for permission. Lending, borrowing, trading, and staking can all be done without waiting for approval. Smart contracts handle all the operations.
DeFi provides more autonomy to users while also coming with new challenges. Layer 1 and Layer 2 handle the challenges of network speed, gas fees, and user adoption.
What is a blockchain Layer?
Blockchains can have different layers which perform different tasks. The layers are divided into Layer 1 and Layer 2 where the former is the base and the main chain while the latter is built on top and is there to assist Layer 1 in scaling.
Layer 1 is secure and fully decentralized, but it can become sluggish. Layer 2 improves and alleviates sluggishness. It cuts costs and reduces burden on Layer 1.
Both Layers have advantages and disadvantages. Both are equally important in DeFi.
Deep Dive into Layer 1
Layer 1 is the original chain, For example, Ethereum, Bitcoin, BNB Chain, and Cardano are all Layer 1 networks.
Layer 1 performs all the activities on-chain. It verifies and settles transactions, runs smart contracts, performs consensus, and offers final settlement.
Layer 1 networks are secure and tested. However, they are not fast or cheap.
Common Layer 1 Networks in DeFi
Ethereum remains the largest DeFi Layer 1 network and most dApps are built on it. While it does have the highest liquidity, it is also the most expensive.
Bitcoin offers security, but lacks in offering complex DeFi transactions. Cardano does have strong backing as it has newer code but is still struggling in developing apps.
Every Layer 1 network contributes uniquely.
Deep Dive into Layer 2
Improving on top of Layer 1, Layer 2 does not serve as a replacement. It serves as an upgrade.
Layer 2 processes numerous transactions off-chain before posting the final data address on Layer 1, which in turn saves space and improves the speed of the system.
You can still get Layer 1 security. But, there is faster speed, lower fees, and a better experience.
Examples of Layer 2 In Action
Arbitrum, Optimism, and zkSync are Layer 2 networks. They run on Ethereum and support DeFi applications. They reduce gas fees.
Uniswap V3 runs on Arbitrum. Optimism hosts Aave. Curve supports zkSync. This demonstrates significant DeFi utilization on Layer 2.
Transaction Speed Showdown
Layer 1 has a lower transaction throughput. Ethereum’s is 15 transactions a second, paired with Bitcoin’s lower pace, is a bottleneck.
Layer 2 changes that. Arbitrum handles thousands per second, and zk-Rollups scale even higher. An improved user experience.
Faster speed increases smoother trading with no delays and no transactions getting stuck.
Cost Efficiency
Layer 1 and 2 interaction: gas fees on Layer 1 are high with sending tokens around $10 and using contracts at 30 or more.
Layer 2 drastically reduces that to under a dollar and for some actions, just cents. This is beneficial for both small and large users.
Lower costs means higher adoption. More traders, more farmers, and more streams of benefits.
Security Comparison
Layer 1 is secure by design with Ethereum’s thousands of nodes, each having strong consensus so it being hard to hack.
Layer 2 is dependent on Layer 1 for final settlement, but it adds its own smart contracts, which can contain bugs.
Top Layer 2 networks conduct audits, which helps improve security and build trust over time, although they do not reach the level of Layer 1 security.
Scalability Potential
Layer 1 has a singular focus which, over time, becomes a congestion bottleneck and halts growth.
Layer 2 increases off-loading capacity, maintaining the integrity of the base layer, and providing high throughput.
These factors are crucial for decentralized finance as the ecosystem scales parallel to off-chain users.
Ecosystem and Developer Adoption
Layer 1 has an extensive ecosystem of tools, frameworks, and documents.
However, Layer 2 allows integration of Ethereum’s ecosystem, enabling simple migration to Arbitrum, Optimism, and Polygon, all of which support Solidity.
This flexibility allows developers to efficiently launch solutions.
Real DeFi Platforms Using Each Layer
Uniswap expanding onto Layer 2, then later adding support for Arbitrum and Optimism, exemplifies the migration.
SushiSwap and Aave operate across both layers as well as Curve, which further illustrates the migration as they are agnostic to the layer.
A number of new projects launch directly on Layer 2 as a response to the increased activity and congestion on Layer 1, as well as the promise of speed and lowered gas fees.
User Experience
User’s experience is often intensive when they are charged high fees, especially when the trades are taking long as they are layered on top of each other in busy times.
Layer 2 resolves these issues. There is less payment with faster trade settlements. The application interaction improves. This attracts even more users.
Content users promote growth which improves the decentralized finance.
Liquidity Trends
Although the majority of liquidity is based on Layer 1, users are beginning to migrate to Layer 2 as the situation is balancing out.
TVL for Arbitrum and optimism is additionally growing which is accumulating several billions in assets.
This in turn draws the retail investors which adds to the trade volume, therefore improving the prices which in turn attracts more users.
Cross Layer Bridges
To access both layers, Bridges are required to transfer tokens from Layer 1 to Layer 2, which are Layer 1 and Layer 2 token transfer portals.
Hop, Stargate, and Across are able to transfer Ethereum, USDC, and other tokens.
Make sure to follow guides to these token transfer portals. Review their audits and be in the safes with scams.
DAO Governance on Layers
Voting is more economical on Layer 2 which makes DAOs more effective.
L1 gas fees shrink the voting strength of smaller holders, while L2 allows everyone to partake, therefore, improves the fairness of governance.
An enhanced vote makes a strong community.
Developer Incentives
The grant fund for dApp and other developer activities is dedicated to the ecosystem with the growth stimulus of Layer 2 platforms.
Optimism operates a builder fund, while Arbitrum manages a specific incentive program and zkSync provides support totaling $10 million for open-source projects.
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All of this draws skill and talent, and this in turn gets better applications developed.
Layer 1 Pros and Cons
| Pros | Cons |
|---|---|
| Strong security | Slow transaction speed |
| Proven history | High gas fees |
| Deep liquidity | Poor scalability |
| Wide support | Bad user experience |
Layer 2 Pros and Cons
| Pros | Cons |
| Fast transactions | Smart contract risks |
| Low gas fees | Still evolving tech |
| Easy onboarding | Complex bridges |
| Friendly UX | Lower liquidity than Layer 1 |
When to Use Layer 1
Adhere to Layer 1 policies if you require the highest level of protection. Also, if you oversee large assets, or when you wish to have the dApp in the pre-edited form.
Layer 1 remains the most efficient for the storage of assets and for the final settlement of transactions.
When to Use Layer 2
Layer 2 will work for trading, betting, staking, yield farming, gaming, and anything which needs a fast pace.
Layer 2 is the best for small to medium transactions. It is cost efficient and enhances productivity.
Future Outlook
Ethereum is in the process of upgrading. Sharding will assist Layer 1. However, Layer 2 will continue to exist.
There will be more shifting apps and supporting wallets on Layer 2. User adoption will increase. DeFi is set to expand on both layers.
There is a multi-layered future.
Conclusion
Layer 1 earns greater trust and security, while Layer 2 gains speed and agility.
You can shift between the two and use both in a flexible approach guided by your needs.
For more DeFi guidance visit Crypto Program for the latest tools, tips, and informative updates.
FAQs
What is Layer 1?
Layer 1 is the foundational blockchain infrastructure. Ethereum and Bitcoin are Layer 1 chains.
What is Layer 2?
Layer 2 is built on top of Layer 1. It improves performance, reducing costs, and increasing speed.
Is Layer 2 safe?
Yes. It uses Layer 1 security. Still, make sure to use audited projects.
Can I use both layers?
Yes. Many apps support both. You can choose based on performance and costs.
Which is better for beginners?
Layer 2 is better for beginners. It is easier to use, faster, and cheaper.
