Neither the author, Tim Fries, nor this website, The Tokenist, provide financial advice. Please consult our website policy prior to making financial decisions.
Ethereum’s sky-high gas fees remain a significant concern among users. In the case that Ethereum 2.0 is unexpectedly delayed, is Arbitrum the answer to step in and help Ethereum users avoid exorbitant transaction fees?
Ethereum’s Ongoing Scalability Issues
Ethereum is the perfect example of a blockchain trilemma. Vitalik Buterin, the co-founder of Ethereum, came up with the concept. In simple terms, it describes the inherent problems in deploying blockchain technology revolving around three aspects:
- Decentralization – the more nodes there are the less likely it is that the network can be successfully attacked.
- Scalability – the network’s capacity to onboard more traffic without raising the cost of transaction fees.
- Security – the robustness of the network, free of DeFi exploits and bugs.
Unfortunately, Ethereum’s enormous gas fees have demonstrated that it has massive scalability issues. ETH gas fees spike every time the platform increases in popularity, which tends to turn people off from the DeFi ecosystem.
Can Ethereum Be Fixed In the Near Future?
Somewhere in the second half of 2022, Ethereum’s new Beacon Chain, a fully upgraded Proof-of-Stake blockchain should be launched, merging with the existing chain. Presently, Beacon Chain has 4,723 nodes and its network is synced at 81.9%. Although people can stake their ETH for Ethereum 2.0, only after the merger is complete can they become validators.
However, based on previous multiple delays, 6-7 months should be considered an unlikely minimum. In the meantime, Ethereum has to rely on sidechains and rollups to offload traffic to Layer 2 and then feed the transaction data back to Ethereum. One ongoing effort to boost scaling and optimize Ethereum’s transaction process is Arbitrum.
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How Arbitrum Works
Arbitrum was spearheaded by Ed Felten, Steven Goldfeder and Harry Kalodner, within Offchain Labs, specifically to create an Optimistic Rollup scaling for Ethereum. Simply put, such a solution uses smart contracts to deliver transaction data from Ethereum main chain to Layer 2 network, and then return the multi-batch data back to the main chain as a single transaction. Needless to say, this drastically reduces bandwidth and computational power needed to handle Ethereum’s growing traffic.
In raw numbers, Arbitrum delivers impressive results: up to 40,000 tps and 5x less transaction fees. Furthermore, its road map includes further fee reduction, potentially leading to a situation where NFT minting and DeFi protocols cost cents instead of hundreds of dollars. There is no further illustration needed than the current gas price difference between Ethereum and Arbitrum:
This is comparable to one of Ethereum’s closest smart contract contender, Binance Smart Chain (BSC), while Polygon (MATIC) as a Layer 2 solution is behind Arbitrum.
We have seen a similar contrast before. Specifically, we witnessed this when a conglomerate of developers departed to create Bitcoin’s hard fork – Bitcoin Cash (BCH). Now, BCH is nearly three times cheaper to transfer while Bitcoin is relying on Lightning Network as the Layer 2 solution to offload traffic.
Besides slashing gas prices, Arbitrum has another trick up its smart contract sleeve. Because it is highly EVM (Ethereum Virtual Machine) compatible, it is exceedingly easy to migrate existing protocols from Ethereum to Arbitrum. Arbitrum One Portal shows dozens of dApps already available, including Uniswap, 1inch, Balancer, Dai, and MakerDAO, with Aave coming soon.
Arbitrum Hiccups Ahead
Although Arbitrum is poised to be a long-term solution, beyond THE 2.0 upgrade, it still faces some obstacles. Due to the still early stage of its development, the withdrawal period may take a week in order for the transaction to be completed as true and not fraudulent.
Another issue is interoperability between Layer 2 networks themselves. If such a feature is not possible, the user will have to pay a fee first to transfer the token from Layer 2 to the main chain and then from main chain to the separate Layer 2.
However, as they become more popular, there are already plenty of interoperability solutions in the works to solve this. Case in point, Hermez’ Massive Migrations, Loopring, Connext, cBridge and Loopring. All of them solve Layer 2 interoperability by using liquidity providers to aggregate batch transactions into a single transaction.
It is then a matter of user preference to decide which type of liquidity provider is funded the most efficiently. Lastly, this diversification of Layer 2 solutions and interoperability bridges may pose a problem as it fragments the rollup ecosystem.
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Do you think users will tend to go to smart contract blockchains that are scalable from the get-go, such as Radix (DLT) or Solana (SOL)? Let us know in the comments below.
About the author
Tim Fries is the cofounder of The Tokenist. He has a B. Sc. in Mechanical Engineering from the University of Michigan, and an MBA from the University of Chicago Booth School of Business. Tim served as a Senior Associate on the investment team at RW Baird’s US Private Equity division, and is also the co-founder of Protective Technologies Capital, an investment firms specializing in sensing, protection and control solutions.
