Arbitrum technology is one of many possible solutions for the recent transaction fee crisis on Ethereum. Ethereum is the 2nd largest cryptocurrency in terms of market capitalization, however, network congestion and high fees have hampered its exponential growth. Arbitrum aims to reduce transaction fees and congestion by moving as much computation and data storage off of Ethereum’s main blockchain (layer 1) as it can. Storing data off of Ethereum’s blockchain is known as Layer 2 scaling solutions. This is because it is built on top of Layer 1 (the main Ethereum network) and retains the security of Ethereum.
At the moment, Layer 2 projects like Arbitrum are expected to be vital stop-gap solutions for Ethereum’s scalability crisis. Updates to the Ethereum network, intended to reduce fees and congestion, are slated for the next year and beyond. These updates, namely Eth 2.0, will help scale Ethereum and reduce fees.
This being said, it's difficult to predict the impact of Eth2 until it launches. It's unlikely that the update will completely solve scalability problems, so layer 2 projects may remain useful in the medium and long term.
How Do Ethereum Gas Fees Work?
Many of the developers on Ethereum are working on decentralized finance (DeFi) platforms that utilize smart contracts. Smart contracts are self-executing agreements written in code on the blockchain, and it’s the backbone of complex decentralized platforms. DeFi projects like Uniswap, Compound Finance and Curve Finance use smart contracts to offer decentralized exchanges (DEXes), lending, borrowing and much more. DeFi has exploded in popularity as users with dreams of massive profits rushed to these platforms for their unique financial technology.
This is where the issue of scaling takes its toll. Smart contracts take more time to process and are more complex than simply sending cryptocurrency between wallets. They require more Ether (gas) to process because the network has to do more computations. Recently, high volumes of smart contract executions severely congested the Ethereum network and the community has been scrambling for solutions. The co-founder of Ethereum Vitalik Buterin believes that the only viable solution for long-term scaling lies in Layer 2 technology.
What are Layer 2 Solutions on Ethereum?
Layer 2 solutions on Ethereum have one main goal: reduce network congestion and transaction fees. Layer 2 projects are built on top of Ethereum as opposed to Layer 1 changes which alter the existing architecture of Ethereum’s blockchain. There are some ‘easy’ Layer 1 scalability changes like increasing the number of transactions verified at once, but in Ethereum’s current state, a degree of the network’s security, decentralization or both would possibly be sacrificed to do so. Ethereum 2.0 aims to make impactful Layer 1 changes without losing these vital aspects of security, but it will take time to launch the Ethereum 2.0 mainnet, and the network needs short-term solutions right now.
Rollups are one of the most popular types of Layer 2 solutions. They are smart contracts that validate large batches of transactions at once off-chain and then post the minimum amount of data back to the main network. The goal is to keep computation and state storage (a data tree of all transactions ever made on the blockchain) from congesting the main network.
2 main types of rollups are being developed now: optimistic rollups and zero knowledge(ZK)-rollups. Optimistic rollups assume all new additions to the chain are valid unless they are challenged by a network participant within about a week. ZK-rollups rely on cryptographic proofs to validate every block added to the network, eliminating the need for trust in validators. While ZK-rollup technology might be the best Layer 2 technology in the future, it is more complex than optimistic rollups and needs to be developed further.
History of Arbitrum
Offchain Labs, the team behind Arbitrum, was co-founded in 2018 by Ed Felton, a computer science and public affairs professor at Princeton. He also served the Whitehouse as Deputy Chief Technology Officer and senior advisor to the president between 2015-2017. Offchain Labs has already received large investments from Coinbase Ventures, Pantera, Blocknation and Compound since its inception. Arbitrum One opened on May 28, 2021 to developers, after its competitor Optimism pushed back its release. Arbitrum may become the most popular Layer 2 solution soon, especially since leading platforms like Uniswap and Sushiswap have joined its network.
What Platforms Will Use Arbitrum?
Arbitrum One, Offchain Lab’s flagship Layer 2 chain, was released on May 28th to decentralized application developers. Offchain Labs mentioned in a recent blog post that they granted access to the more than 250 developer teams that requested it. Offchain Labs’ blog suggests that Arbitrum One will be available to the general public soon, but they haven’t given any firm dates yet.
Uniswap, one of the largest DEXes on the Ethereum network, recently gauged its governance token holders’ interest in porting the platform to Arbitrum One. The vote was nearly unanimous in favor of the move to Arbitrum One. Uniswap had initially intended to employ Optimism’s Layer 2 solution, however, Optimism delayed its full launch and Arbitrum moved up theirs. The recent governance tally was not a final decision, and since Uniswap has implemented Optimism. It took a little bit longer for them to integrate Arbitrum, however, Uniswap v3 has been deployed on both the Arbitrum and Optimism network.
Arbitrum Versus Optimism
The largest difference between Arbitrum and Optimism is how the technology resolves a dispute on Layer 2. Both projects are optimistic rollups and use a challenge system where any validator can dispute a block on the chain. This is where the technology of the 2 projects diverge. Optimism re-executes the disputed transaction on Layer 1 and checks which party is correct in their assertion.
The Arbitrum team realized that this process can contribute to network congestion significantly. Optimism needs to port a large amount of data to Layer 1 to compute the disputed transaction and resolve it. Instead, Arbitrum continuously subdivides the challenge until the disputed information is so small that it can be quickly sent to and resolved on Layer 1. Because they both use optimistic rollups, some trust in the validators is required. If all validators for a dApp collude in a malicious attack and no one challenges it, Arbitrum’s bridge between Layer 1 and 2 will assume the transaction is valid.
Vitalik Buterin on Layer 2 Solutions
Vitalik Buterin is the visionary founder of Ethereum and has been researching scalability solutions for years. He recently mentioned that he believes Layer 2 rollups will be the only choice to solve its scalability problem in the short term. He knows the topic of Layer 2 solutions well; he co-founded Plasma Group, one of the 1st Layer 2 projects. Plasma Group has since been renamed to Optimism and transitioned to working on optimistic rollups, which have more potential for DeFi than Plasma technology. Arbitrum will likely take its place as a major player in Layer 2 scaling of Ethereum, at least until other rollup technology advances enough to take its place.
Ethereum 2.0 Upgrade
Ethereum 2.0 had been in the works for years, and even though it launched its beacon (test) network in November 2020 it wasn’t finished until September 15, 2022. The most exciting parts of Eth 2.0 will be moving to a proof of stake consensus mechanism and sharding, planned for launch within the next year.
Sharding split the blockchain infrastructure into 64 shards, decentralizing the network even more. This is because it decreases the computational power required for individuals to be network participants. It will also drastically increase the throughput of the network, lowering transaction fees. Sharding may prove wrong the so-called “scalability trilemma”, which proposes that upgrades to scalability, security or decentralization lead to downgrades in the other 2 variables.
ETH2 is a major milestone in Ethereum’s development, but it will likely still leave room for Layer 2 scaling.
How To Buy Ethereum
Since Ether is such a large and established cryptocurrency, it's available on several different cryptocurrency trading platforms. If you're interested in also investing in altcoins, make sure to do your research on whether or not an exchange offers it. If you're looking to invest in both stocks and crypto, Webull and Robinhood offer the this, but have fewer altcoins on their platforms than a dedicated crypto exchange.
Why Arbitrum is a Game Changer
Arbitrum sets itself apart by optimizing dispute resolution in optimistic rollups. This could reduce congestion on the Ethereum network even more than its competitors. However, it's difficult to determine what impact it may have on the overall success of Arbitrum. In a perfect world, all transactions would be valid and no disputes would occur. In this case, Arbitrum and Optimism would start to look identical from the surface. Unfortunately, we don’t live in a perfect world and disputes are going to happen at some point. If the frequency of disputes is high, Arbitrum’s efficiency in resolving them could make it the superior Layer 2 solution.
Frequently Asked Questions
Whats the main difference in Arbitrum and Polygon layer 2's?
The main difference between Arbitrum and Polygon is their securitization. Arbitrum is secured by the Ethereum base layer as it does not have its own token. Polygon has its own token and is securitized through a proof of stake consensus mechanism.
How do Arbitrum and Optimisim differ from Polygon's scaling solution?
Arbitrum and Optimism differ from Polygon’s scaling solution because Arbitrum and Optimism use optimistic rollups and Polygon is a sidechain that runs along Ethereum.
Recommended lecture: WHAT IS LAYER 2 ON ETHEREUM?
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About Henry Stater
Henry is an expert in all things crypto. He stays up to date with all the latest coins, platforms and technologies in the field. He has particular expertise in the burgeoning decentralized finance ecosystem and loves trying out all the new platforms. He also always follows major events in other financial markets and geopolitics as a whole, especially when an event’s effects ripple through the crypto market.