Layer 1 vs Layer 2 Blockchains: Their Risks and Benefits Explained

Different architectural layers for deploying and executing smart contracts have been created over time–and along with them has come confusion around which is best to use. The primary layers in use today are simply known as Layer 1 and Layer 2.

Spoiler alert: Our "Layer 1 vs Layer 2" comparison won’t end with one approach being judged better than the other, but is instead a guide to the circumstances under which you might want to use a blockchain of one layer instead of the other.

Each layer has different advantages and disadvantages–and the best one will depend on the actions users want to take, and your risk tolerance.

If you’re a new Web3 user, you may have engaged in transactions on both of these layers without being aware of which one you were employing. It’s important to understand the differences between layer 1 and layer 2, so you can weigh the relative benefits of each for your particular use case and make the best choice. The right choice might save you time and/or money–while the wrong one might expose you to a greater risk of fraud or theft.

Layer 1: A primer

‍Layer 1 blockchains provide an architecture for tokens and smart contracts that other applications can be built on top of. The blockchains are decentralized and operate by consensus mechanisms. Each layer 1 blockchain has its own token.

The two earliest and most popular layer 1 blockchains are Bitcoin (BTC) and Ethereum (ETH). Their means of achieving consensus are now different: Since the Merge in Fall 2022, Ethereum’s consensus mechanism is now proof of stake, while Bitcoin uses proof of work. In proof of work, transactions are verified by block creators, called miners, that solve for a cryptographic number and are rewarded with a coin. In proof of stake, transactions are verified by block creators, called validators, that hold and stake tokens and are rewarded with a transaction fee.

Transactions for a particular token will be settled in that token’s layer 1 blockchain, whether you initiate the transaction in layer 1 or layer 2. A range of other actions may take place on layer 1 blockchains, such as testing smart contracts or mining tokens.

The advantages and disadvantages of layer 1

In general, a layer 1 blockchain is Web3’s most secure place to execute transactions. The larger the size of your crypto transaction, the more advisable it is to conduct it directly on a layer 1. Why doesn’t everyone simply use layer 1 blockchains for their transactions, then?

Higher costs and bottlenecks that reduce transaction speed and throughput are both problems in layer 1 blockchains, as they strive to uphold their decentralized structure. These challenges have been dubbed the blockchain scalability trilemma. The Web3 goals of decentralized structure, high security, and rapid scalability are in tension with each other, making it difficult to achieve them all at once. In layer 1, scalability tends to be the top challenge: keeping fast transaction speeds and low fees as more and more people pile onto the network.

Currently, if you try to execute a transaction on a busy layer 1 blockchain, there can be maddening slowdowns. One member of our own Dragonscale team lost out on an opportunity to buy a desired NFT due to a wait for transaction finalization that stretched to two hours. Meanwhile, another buyer was able to execute their purchase faster, successfully buying the NFT out from under him.

On Ethereum, gas fees tend to rise if traffic spikes, as users who get paid for verifying transactions are put under increased stress with the growing traffic volume. So your layer 1 transaction may turn out to be both slow and expensive, a one-two punch that drives users to seek out alternatives to layer 1 transactions.

Layer 1 communities are working on improvements to address the lag-time and cost issues, but changes are slow in coming and each blockchain has its own architectural limitations. This gap has spurred the creation of layer 2s.

A Layer 1 vs Layer 2 analogy

‍Think of it this way: When you want to travel around town, you may decide to take the freeway. Because it’s the main traffic artery, you’re hoping it will provide the shortest and fastest route to your destination. But when you drive on, you may find many people have had the same idea, and now a traffic jam has slowed progress to a crawl. There may even be a higher freeway toll during peak hours, making the journey more expensive.

That’s when you decide to take an offramp and use a frontage road to reach your destination instead. In the current circumstances, it provides a faster, cheaper option–but the offramps and onramps are more subject to road hazards, and you need to be more watchful when driving.

Think of the freeway as layer 1 and the frontage road as layer 2.

What is a Layer 2?

‍Layer 2s are separate blockchains that exist to relieve congestion and help speed up transactions for an underlying layer 1 blockchain, thereby improving scalability. With less transaction volume to manage, layer 2s can offer lower fees. With their increased speed, use of layer 2 can help improve scalability.

Different layer 1s have related layer 2s that interface with them. For instance, Polygon is a popular layer 2 solution for Ethereum, which also has several other layer 2s. So far, Bitcoin has fewer layer 2s, but Lightning is one example. Much of the work of a crypto transaction can happen in layer 2, thereby relieving congestion and slowdowns in its related layer 1.

There are different types of layer 2 networks. Two of the most common are rollups (such as ZK-rollups) and sidechains (such as Polygon). Rollups attempt to maintain the full security guarantees of the layer 1 chain. They maintain their token balances on the layer 1, bundle transactions into batches, and send them back to the layer 1 for finalizing. Sidechains maintain token balances on their own chain and aim to be “secure enough” in relation to the layer 1.

Advantages and disadvantages of layer 2

Compared with a layer 1, layer 2 blockchains promise lower fees and faster transaction speeds. They do so by using scaling protocols that better distribute verification and utilize the network’s resources. If you’re looking to grab a hot NFT at auction, a layer 2 may be your preferred option.

The dark side is that these layer 2 advantages also come with increased risk. To transact in layer 2, you’ll need to use a software bridge to conclude your transaction back on layer 1–and the bridges between these layers are less secure and a frequent target for thieves.

In the largest recent example, $625 million was stolen in March 2022 from a bridge between play-to-earn crypto gaming leader Axie Infinity and its layer 2 Ronin sidechain. Hacked private keys enabled thieves to convince bridge software they had the right to withdraw both ETH and the stablecoin USDC.

Examples of bridge hacks are plentiful. By mid-2022, Chainalysis reported $2 billion in crypto had been stolen from cross-chain bridges year-to-date.

In deciding whether to buy or trade on a layer 2 blockchain, consider its track record for preventing theft and learn about the anti-fraud measures they have in place. The larger your transaction, the more cautious you should be about using layer 2.

Layer 3

‍Although it’s still quite experimental, some have proposed an additional architectural level: Layer 3. The general idea is that, while Layer 2s are for general-purpose, trustless scaling, Layer 3 blockchains are for customized functionality, such as privacy, customized scaling for particular applications, and weakly trusted scaling. Until blockchain architectures further mature, most users don’t need to be concerned with Layer 3s.

The outlook for solving the blockchain trilemma

‍Will it take more layers to solve the blockchain trilemma–or perhaps, fewer? Some layer 1 chains have been designed for higher throughput from the beginning. Solana (SOL), which launched in 2020, promises to deliver better speed and lower costs, but critics argue it’s at the cost of loss of some decentralization. Solana uses yet another form of consensus, proof of history–which time-stamps actions taken on the blockchain–in tandem with proof of stake to accelerate transaction approval.

Is it better to perhaps sacrifice some decentralization to achieve a layer 1 blockchain that can offer scalability and lower fees? Or will building additional layers–possibly, with improvements to bridge security–manage to maintain decentralization while creating the needed scalability?

There are vigorous arguments in our industry about which route is better. Having layers certainly complicates the user experience–you have to decide whether to use Polygon, for example, which has its own token, and then bridge to ETH, or perhaps transact directly on Ethereum instead. How much Web3 users are willing to sacrifice some security for speed and lower costs remains to be seen.