New L1 Blockchains Are Expanding DeFi Ecosystem, No Ethereum Killers Yet: Chainalysis Report

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Nearly all crypto tokens fall into one of two categories: Layer 1s and Layer 2s, according to an update from Chainalysis.

Chainalysis writes in a report that Layer 1s are tokens “with their own blockchains, while Layer 2s are built on top of Layer 1 blockchains, usually through smart contract technology.”

As explained by the blockchain analysis firm, Layer 2s “can be new tokens, or more complex projects known as decentralized apps, or dApps.”

However, there are also Layer 2 projects that “don’t utilize smart contracts, such as Bitcoin’s Lightning Network, which is designed to facilitate faster and cheaper Bitcoin payments through transaction batching.”

Different Layer 1 blockchains are “designed and optimized for different goals.”

Bitcoin is “designed to be a currency for simple, trustless transactions with enforced scarcity to preserve its value.”

However, its relatively simple structure “limits what can be built on top of it.” Ethereum was the first mainstream blockchain “to incorporate smart contracts, and it hosted the first wave of dApps and tokens that ushered in DeFi and Web3.”

But, while Ethereum has become the most prominent blockchain for Layer 2 project development, its Proof of Work (PoW) mining system and high gas fees “have proven an impediment to transaction speed and scalability within its DeFi ecosystem.”

Many, if not most, of the smart contract-enabled Layer 1 blockchains developed since were created “to address those problems.”

Solana and Algorand, for instance, “leverage a Proof of History (PoH) and Proof of Stake (PoS) consensus mechanism respectively, as well as other blockchain construction tactics, to provide lower fees and faster transaction times.”

Other Layer 1 blockchains, such as Avalanche, “are built more for interoperability with other chains.”

As noted in the update, Bitcoin “appears to have led in unique users until March 2020, at which point it was overtaken by Ethereum.”

This coincides roughly “with DeFi growth, which makes sense, as the rise of DeFi fostered the creation of many services that accept Ethereum and other tokens built on its blockchain.”

Algorand, on the other hand, has “yet to achieve comparable adoption, with a one-week high in active wallets of 103,000, compared to 1.7 million for Ethereum and 916,000 for Bitcoin.”

As we can see above though, all three cryptocurrencies “saw sometimes coinciding swings in active wallets throughout 2021 and 2022 to date.” Overall though, each blockchain’s growth in transaction volume “wasn’t correlated with the others for the most part.”

During Q3 2021, Algorand saw its transaction volume “grow 65%, while Bitcoin and Ethereum saw volumes drop 37% and 45% respectively.”

This may have “reflected Algorand’s growing hype — having launched in April 2019, Algorand was a relatively new blockchain, and reached an all-time price high in September 2021.”

Algorand and Bitcoin both “grew transaction volumes significantly in Q4, during which time cryptocurrencies across the board were in a bull market, but curiously, Ethereum transaction volume grew very little.”

All three coins “lost significant transaction volume in Q1 2022, but only Bitcoin grew in Q2, which saw steep declines possibly portending another crypto winter.”

That may “reflect Bitcoin’s perceived status as a relatively safe coin compared to Algorand, given that the latter is a relatively new asset.”

For more details on this update, check here.