The competition among L1 public chains has weakened, and L2 public chains will become the next focus of competition

Author: Zixi.eth

The next cycle may not see a battle of L1 public chains; instead, it might be a battle of L2 public chains.

I am very optimistic about General L2 and vertical L2.

Here’s the analysis:

All L1s face the impossible triangle problem, meaning they cannot simultaneously achieve decentralization, scalability, and security. All L1s have tried to solve this issue from 2018-2020 and 2021-2023, but the reality is that no one can accomplish all three; a trade-off must be made.

When people realized that the direction of L1 was problematic, Israel created the first Layer2, Starkware. L2 involves the project team operating nodes, creating their own "chain," where multiple transactions are batched into a single transaction submitted to the L2 contract on L1. This contract executes on L1, and then the main chain confirms the L2 transaction, allowing for speed and cost-effectiveness while inheriting the security and decentralization of L1.

In 2022, Celestia introduced the concept of modular blockchains, suggesting that blockchains should be divided into four parts: Execution, Settlement, Consensus, and DA (Data Availability). Among these, Execution and DA are the most noteworthy. These two components handle the top layer (execution) and the bottom layer (archiving transactions).

Let’s rewind to 2017-2018, when investment targets were mostly Ethereum fork chains. The hype of that time is well-known, but why did it become so popular? This was related to the issuance of new asset types like ERC20 through IEOs and IDOs, allowing anyone to issue new assets for market subscription without permission, which was the catalyst for that bull market. The profitable targets at that time were L1 (eth fork) and various new asset trading platforms.

From 2020-2021, investment targets expanded beyond Ethereum competitors to include dapps represented by DeFi and GameFi, and the new asset type NFT also became one of the entry points for traffic. The profitable and surviving targets were L1 (eth competitor) and various asset trading platforms (in addition to the aforementioned centralized and decentralized exchanges, NFT exchanges, and various derivatives exchanges also began to grow stronger).

Let’s look at an interesting phenomenon, thanks to Boss Tang for the insight. Reflecting on the L1s that emerged in the last cycle, the last round of financing before their token launch seemed very expensive, but after experiencing a bull and bear market, comparing current valuations makes those earlier valuations seem very cheap. However, this statement has survivor bias.

Why did L1s make money in the last cycle? Because: 1. People genuinely wanted to solve Ethereum's scalability in different ways. 2. Innovations in various consensus methods. 3. Everyone wanted to establish their own ecological perspective. 4. The liquidity caused by the pandemic led funds to flow into the most grand narratives. 5. At that time, Ethereum's ecosystem did not yet possess absolute dominance.

From the perspective of General L1, I define them as large and comprehensive, the grandest narratives of L1, where everyone is an Eth killer, and everyone wants to create their own ecosystem. Even in the last round of investment, or even after the token launch, the valuations are still more than double if sold at a high point (and can be sold because they are unlocked), making it an optimal solution.

From the perspective of L1 as a service, this seems to be a larger and more comprehensive story than L1, but problems arise: 1. It tests the team's ability to build an ecosystem more than L1. 2. The token capture value capability is very poor (Cosmos's token is essentially worthless, and Polkadot's slot auctions have been criticized for a long time). However, it can still earn a lot, and even in the last round of investment, there are returns of more than double, but the overall ceiling is relatively small.

From the perspective of vertical L1/L2, this is more segmented and indeed has a lower ceiling compared to the above options, but the reasons for not succeeding at that time were: 1. There was no modular thinking at that time. 2. It essentially still created an L1, needing to rebuild the VM, funds, users, and developers. 3. Performance was still quite poor, unable to support enterprise-level finance or mass adoption on the consumer side. However, when the trend comes, the benefits will be extremely obvious.

However, I believe the next cycle may present a different situation, such as ethstorage and xxxx (keeping it a secret), one solves the data storage problem on Ethereum, while the other achieves an extreme execution layer to support consumer-grade applications and serve high-performance derivatives/spot exchanges for enterprises. The current lack of mass adoption is not necessarily because blockchain is unsuitable for mass adoption.

Not necessarily, especially from a financial perspective, blockchain or distributed technology is very suitable for mass adoption in trading. If a very fast execution layer, i.e., a very fast vertical layer 2, can be created, web2 developers, especially Chinese development teams, may be able to create new paradigms on it.

In these two cycles, Ethereum's unshakeable position has been proven. Will the public chain battle be replicated in this cycle? I think not. The reasons are: 1. Development (300,000 developers). 2. Users (300,000-400,000 DAU). 3. Funds (30B TVL). 4. Sufficient iteration and updates; we have confirmed directions like Rollup, modularization, and DA over three years. Therefore, the public chain battle in the next cycle will be a battle of L2.

Currently, L2 is still primarily General, and it is still neither cheap nor fast, with much room for improvement, and the current L2 ecosystem is not that large. The performance of current L2s does not significantly differ from other L1 competitors. For example, in B2B financial projects, let’s take Gravity as an example.

CeDeFi on-chain derivatives are inherently designed to serve large clients, but limited by the current performance of Starknet, even if an appchain is created, it still cannot achieve on-chain matching from both cost and speed perspectives (currently only off-chain matching and off-chain settlement can be done), thus failing to achieve complete transparency and trustlessness. If Gravity were moved to xxx, it would become a high-performance, fully transparent B2B on-chain derivatives exchange.

Can we take a different approach, temporarily sacrificing some decentralization capabilities to create a very high-performance L2 to differentiate and compete with the current General L1? Perhaps this L2 may not be suitable for DeFi, but it is very suitable for consumer projects (like games or e-commerce) and some enterprise-level financial projects (on-chain matching order book exchanges). This creates a potential soil for mass adoption.

Currently, such vertical layer 2s taking a different approach may provide good infrastructure for dapps aiming for mass adoption. However, this may require improvements in hardware storage, parallel MEV, data structures, etc. Let’s wait and see the progress of high-performance-focused vertical L2s in six months to a year. Then we can see if mass adoption can be achieved on them in two to three years, whether in consumer or financial sectors.