L2 Summer or Predicament?
Recently, I heard complaints from several friends working in the crypto airdrop hunting. Many studios had invested significant resources and transaction volume in zkSync and Linea in the past, only to find themselves empty-handed, contributing tens of millions of dollars in fees to these major L2 solutions. As a result, when these studios saw new L2 solutions launching, they became less enthusiastic about creating transactions.
What we originally expected was a thriving L2 Summer that did not require the involvement of studios. However, now we find that as studios gradually fade away, the trading volume and total value locked (TVL) on several major zkEVMs have not met the expected growth. When speculators in the market no longer participate in L2 and no longer breathe life into the ecosystem, the growth becomes sluggish, and the ecosystem contracts.
L2 Competition from an Investor’s Perspective
From an investor’s perspective, the investment logic in building L2 infrastructure is that we believe these teams, with ample capital support, will engage in multi-dimensional ecosystem competition and encourage diverse applications within the ecosystem to flourish. However, most L2 arms races have not focused on ecosystem development. Instead, they continue to allocate a significant portion of their funds to recruiting high-priced ZK and technical experts from PSE. While it makes strategic sense for L2 projects to invest in technology development and talent acquisition, I believe that high-concurrency-compatible Rollups without applications have little value; they are just castles in the air.
Challenges in L2 Ecosystem Growth
Waiting for the ecosystem to grow naturally can be a long and tedious process. If this arms race cannot help Ethereum achieve explosive growth in application ecosystems, and if it continues to overly invest and duplicate efforts in low-level technical aspects like sequencers, bytecode, and lower-level technologies, we won’t see the emergence of a thriving ecosystem.
Currently, competition among L2 applications is fierce. If an application has a vested interest in a specific L2 chain, gaining support from other L2s becomes exceptionally challenging. At this stage, the application is also hesitant to migrate to other L2 chains because doing so would make it harder to secure the grant from the original L2. Therefore, choosing the right partners has become a difficult challenge for applications. For these reasons, every L2 wants to have exclusive applications, leading to a fragmented landscape. When applications grow, they may consider deploying on multiple L2s or even launching application-specific chains. However, the uncertainty of whether an application will stay on their L2 in the future prevents them from making significant investments. How many L2 projects have not yet disclosed their ecosystem grant programs?
Breaking the Deadlock One: Top L2 Projects Taking on Ecosystem Development Responsibilities
We don’t want to see a situation where every L2 project operates independently, leading to relative fragmentation within the Ethereum ecosystem. Perhaps this situation is a product of a competitive market. However, we believe that using a combination of L2 applications to incubate and support the emergence of a more diversified portfolio of application products is essential for the entire L2 ecosystem.
Unicorn companies with valuations exceeding one billion dollars should definitely take on the responsibility of ecosystem development. Ecosystem development can take many forms. For example, StarkWare and Optimism have heavily supported Dojo and Mud engines, with a focus on the FOG game. The Arbitrum Grant incentives have been successful in supporting ecosystem growth, with GMX, launched exclusively on Arbitrum, achieving transaction volumes and user experiences comparable to dydx in a short time. They have also co-invested with IOSG in TreasureDAO’s game platform, referred to as “Chain-Based 4399.” Optimism and Coinbase introduced Base Chain based on OpStack, and Base Chain saw the emergence of applications such as http://Friend.tech, resulting in significant protocol revenues within two months, with TVL exceeding 20 million USD.
What they did is quite simple: they attracted developers from within the ecosystem based on network effects and incentivized more diverse innovations and contributions through protocol tokens. However, some L2 teams and zkEVM L2s believe that providing airdrops and incentive expectations, including how to support ecosystem projects internally, do not encourage innovation. They prefer a hands-off approach, allowing projects within the ecosystem to compete naturally. In this regard, not making significant financial and token investments in ecosystem development may prove to be a more aggressive strategy in terms of market capacity and positioning, but it may also lead to development bottlenecks for platforms that do not make a certain level of investment.
Breaking the Deadlock Two: Competition Should Emphasize Collaboration
In theory, L2 competition differs from L1. Ethereum emphasizes equality and open collaboration, with different technical approaches and challenges to achieve various technical goals. All scaling protocols aim to strengthen the network effect of Ethereum.
As Ethereum transitions from ETH2.0 to Rollup, the industry’s future lies in super applications and mass user adoption. Capital is always the first to execute Ethereum’s roadmap. Should L2 projects with significant capital support initiate a competition to build an ecosystem for user-oriented applications? With valuations exceeding tens of billions of dollars and capital investment of over five billion dollars, how should the industry channel this towards downstream innovation for user applications?
Apart from continued heavy investment in ecosystem support by capital, zkEVM represents the industry’s potential for innovation. It should rethink the development plan of the ecosystem. L2 should learn from DeFi Lego, where entrepreneurs and developers should not only replicate similar technical service stacks but explore different avenues to generate new ideas and directions, experimenting with creativity and possibilities. In some open-source protocols and directions, a standardized approach should be adopted to minimize redundant resource allocation. Competition should emphasize cooperation, combining more financial resources on groundbreaking applications. Each platform should strive to support applications like GMX/Friend.tech.
The Ultimate Goal of a Diverse Ecosystem: The Growth of L3 and Application Chains
The industry is currently undergoing a phase of innovative challenges. We have witnessed many moments of hardship for first-time founders during the bear market, who need to understand their significance in the industry. In these difficult times, we should not only focus on competition but should encourage and support the flourishing of the Ethereum ecosystem through more collaboration.
Mainstream venture capital (VC) and L2 projects can make contributions to the developer environment and developer ecosystem. The industry should be willing to support projects that do not necessarily issue tokens but provide value to other projects, cultivating the open-source community, improving developer experiences, enhancing application frontends, and investing in developer education and training. I firmly believe that a user application-driven L2 Summer, based on the application’s explosion, can help us emerge from the bear market.
After dydx chose to leave Starkware, they decided to deploy application chains within the Cosmos ecosystem. More and more application projects are detaching from mainstream L2s and re-establishing their valuation logic and product architecture. We have also seen the emergence of Rollup-as-a-Service projects based on opStack, such as Conduit, Caldera, and Gelato, which are supporting game and application ecosystems. For example, Caldera assists protocols and games in building small, temporary features. Each feature takes 2 to 5 engineering days, providing high-touch and customized application features with monthly and feature-based payment options. Gelato helps Astar issue zkEVM on the Polygon chain and charges monthly according to Raas. New projects like Arbitrum Orbit, Risc0, Nil Foundation, and others are competing and building ecosystem protocols in this new Raas landscape.
In the past year, IOSG’s investment strategy has shifted from an infrastructure investment ratio of 80% to over 40% investment in the application sector. We are very optimistic about Asian teams’ innovations in product-user interactions, AI-driven applications, social games, and other areas. We will also support these application teams in cooperating with various L2s to receive broader ecosystem support.
This article represents the author’s personal views and does not constitute any investment advice. In the interest of full disclosure, IOSG is an investor in most L2 protocols, including but not limited to Arbitrum, Optimism, Starkware, zkSync, Aztec, Scroll, Risc0, Linea, Taiko, and others.