Exploring Bitcoin Layer 2 Solution, The Next Wave?

We have taken note of the excitement within our community regarding new ecosystems and chains based on our latest poll. Our goal is to provide you with valuable insights into the trending topic of Bitcoin Layer 2 and its implications on the recent halving event. As a foundation that actively supports the development of decentralized ecosystems, we believe it is crucial to analyze how Layer 2 solutions can contribute to the industry’s growth. In continuation of our previous piece on the Ethereum Virtual Machine (EVM), which introduced the concept of Layer 2, this article will delve into the world of Bitcoin Layer 2. By examining prominent scaling protocols such as the Lightning Network, Rootstock, Stacks, and Liquid Network, we aim to uncover their potential in unlocking new utilities, enhancing privacy, and improving the programmability of Bitcoin. Additionally, we will address the challenges that lie ahead. So, without further ado, let’s dive in.

Significance of Bitcoin Layer 2 Solutions

As more users enter the cryptocurrency space, the demand for faster, cheaper, and more user-friendly transactions will increase. Layer 2 solutions are poised to play a critical role in addressing these needs as we have seen in Ethereum. For Bitcoin, more interoperable Sidechains like Rootstock are expected to grant access to decentralized applications, while ZK-rollup layers like RIF Rollup built on top of Rootstock will enable a seamless user experience, positioning Bitcoin at the forefront of the next wave of crypto adoption.

Most people would agree that the continued development of Bitcoin is a good thing. It means that there are more ways for Bitcoin users to use their BTC, whether it’s for daily transactions, investment, or earning returns. The fact that there won’t be major changes to Bitcoin Core also means that there are less risks introduced for those who hold Bitcoin as a long-term investment. Additionally, the growth of these new use cases has led to increased earnings for Bitcoin miners, which helps ensure the long-term security of the Bitcoin network while driving scalability and functionality.

Examples of prominent Bitcoin Layer 2 protocols:

These Layer-2 solutions showcase innovative approaches to scalability, interoperability, and economic opportunities in the Bitcoin ecosystem. They represent the growing interest in unlocking the full potential of Bitcoin and enhancing its functionality and connectivity with other blockchains.

It’s important to understand that there is a difference in decentralization between Bitcoin’s base layer and Layer-2 solutions like Liquid Network. Bitcoin’s base layer relies on a large number of distributed miners who work together to produce blocks and secure the network. On the other hand, Layer-2 solutions like Liquid Network operate with a smaller group of 15 functionaries who are responsible for signing transactions and keeping the network running. This means that Liquid Network is more centralized compared to Bitcoin’s base layer because it relies on a smaller number of trusted entities to operate.

Here are a couple other examples that have been picking up traction in the recent months.

1. BOB (Build on Bitcoin) is a hybrid Layer 2 network that combines Bitcoin and Ethereum. With $10 million in seed funding, BOB aims to create the first Bitcoin Layer-2 solution with Ethereum Virtual Machine (EVM) compatibility. It plans to perform off-chain computations and verify them on-chain, addressing concerns about network strain.

2. Mezo: a Bitcoin Layer 2 network developed by Thesis, has raised $21 million in funding. Mezo aims to amplify Bitcoin’s infrastructure, providing cheap and fast transactions. It will support Thesis’ bitcoin-backed Ethereum token tBTC, enabling users to access Bitcoin within Ethereum’s DeFi ecosystem.

Bringing Memecoins to the Bitcoin Ecosystem

There’s another fungible asset class on the rise: Bitcoin Runes. The Runes protocol, first announced in September 2023 and recently launched with the Bitcoin Halving on the 20th of April 2024 allows Bitcoin Runes to be built on Bitcoin. Runes are preexisting fungible tokens on the Bitcoin network but created to be more immutable and efficient. While fungible tokens in general have multiple use cases, the one trend that’s taken the ecosystem by storm is undeniably the rise of Memecoins, as we’ve also previously covered. As Bitcoin stands as the popular blockchain network, having the ability to create memecoins is massive.

Data from Dune Analytics shows us that Runes-related transactions have taken up a close to 64% of the transactions on the Bitcoin network until the 24th of April. However, following days see transactions dwindling and picking up again from the 4th of May, regaining its 60%+ transaction share.

Implications from the halving

The recent halving event in Bitcoin has had several implications for Bitcoin Layer-2 solutions. The halving led to increased trading activity and higher transaction fees on the Bitcoin network. Coinciding with the halving, the launch of the Runes protocol resulted in the creation of meme coins and contributed significant fees to Bitcoin miners. This surge in fees and on-chain activity is expected to drive greater adoption of layer-2 solutions like the Lightning Network.

Additionally, the launch of protocols such as Ordinals, BitVM, Babylon, Stacks, and Merlin has also contributed to increased fees and generated interest in Bitcoin Layer-2 solutions. Tokens associated with Bitcoin Layer 2s, such as STX, ELA, and SAVM, have outperformed Bitcoin since the halving event.

Looking ahead

The OAX foundation is pleased to see innovation around Bitcoin to drive adoption. However, it is yet to discover the definitive use case for Layer 2 solutions outside of DeFi services, asset management and Bitcoin transactions. Developing effective Bitcoin Layer 2 solutions also faces challenges due to protocol limitations, even Ethereum Layer 2 solutions have not fully matured after years of development. There is a risk that Bitcoin Layer 2 solutions may be introduced too late, with Ethereum Layer 2 solutions or alternative Layer 1 protocol already gaining substantial adoption. While Layer 2 solutions and increased infrastructure are expected for Bitcoin, timing and its readiness will be crucial to compete in the digital asset market. All in all it is crucial to closely monitor the progress and evolution of development in this rapidly advancing area.

Disclaimer: The above is an opinion piece written by an authorized author, but in no way represents the official standpoint of OAX Foundation Limited, nor should it be meant to serve as investment advice.