Arbitrum is a scalability solution dedicated to the Ethereum (ETH) blockchain. Its technology is based on an improved version of optimistic rollups, originally developed by the Optimism development team. Let’s discover together the modifications that allowed Arbitrum to dominate the middle of layer 2 on Ethereum.
Ethereum, A Blockchain Victim of its Adoption
The growth of Ethereum (ETH) during the 2020s and 2021s is such that the blockchain today is struggling to keep pace with its adoption. And for a good reason, the average cost of a transaction on Ethereum exploded before reaching the symbolic bar of $50 in mid-2021. With over 3,000 decentralized applications battling for the few hundred thousand transactions per day, it’s hard to imagine Ethereum being able to remain usable as it is.
This recent spike in fees has pushed developers to find scalability solutions. The most promising, Ethereum 2.0, will not finally see the light of day before 2023 with the arrival of “sharded chains” after being delayed on many occasions. This proposal is the most efficient on paper because it proposes to modify the mother blockchain directly. However, it has been waiting since 2019 and is now seeing the arrival of third-party solutions, also called “ layer 2”.
These layer 2 are independent technologies built as an overlay of Ethereum. There are several versions, including “channels”, peer-to-peer payment channels or “sidechains”, carbon copies of Ethereum whose scalability has been improved. Although channels are very secure, they are only useful for one type of transaction. On the other hand, sidechains can accommodate any application but are responsible for their own security.
Figure 1: The different layer 2 solutions on Ethereum
To combine security and versatility, a new scalability solution will be launched in 2021 on Ethereum: “rollups”. These combine the advantages of channels and sidechains while eliminating their disadvantages as best as possible. These are sovereign blockchains whose transactions are periodically rolled up into compressed batches and finalized on Ethereum. There are two types: optimistic rollups and ZK rollups.
Optimism launches the race for optimistic rollups by deploying the first iteration of the concept in 2021. The Arbitrum development team then decides to use the technology while improving its scalability and costs.
An Evolved Version of Rollup Technology
Even if they are simple independent proof-of-stake blockchains, rollups must still benefit from the security of Ethereum. To do this, a smart contract is deployed on Ethereum. This contains a ” state root ” of layer 2 in the form of a Merkle root. This sequence of numbers and letters fully defines the state of the rollup, acting as a backup.
Figure 2: Smart contract containing Merkle root, layer 2 backup
Like any backup, it must be updated regularly to maintain its relevance. A transaction is therefore published on Ethereum at regular intervals containing the new root state of the rollup. This operation is carried out by the “sequencers”.
In order to keep track of all transactions made between each update, these are rolled up into a batch and posted to the parent blockchain in the same transaction. Only crucial information is kept in order to reduce the batch size as much as possible.
Figure 3: Transaction containing the batch and what to update the backup
To guarantee the validity of all transactions, optimistic rollups use the concept of “verifiable transactions”. The initial assumption is that all transactions are valid, as a presumption of innocence, hence the term “optimistic”. A “challenge” period is introduced, allowing anyone to challenge this conjecture by submitting a “fraud-proof”. This period lasts 7 days, after which the transaction becomes immutable.
Arbitrum, An Advanced Fraud Proof System
Arbitrum uses a more complex fraud-proof system than the one developed in the first iteration of the optimistic rollups. At Optimism, the automatic mechanism finds the problematic transaction, isolates it and publishes it entirely on Ethereum. If this transaction is rejected by Ethereum miners, then it is considered fraudulent, and vice versa.
This process is automatic and therefore allows the network to be secure even if only one actor is honest. The rejection of a transaction implies a penalty towards the malicious actor.
Arbitrum’s technology imposes additional precision on fraud proofs. Indeed, these must designate the exact portion of the transaction that is problematic. Only this small part is then executed on Ethereum, making the process faster and cheaper. These fraud proofs are called “ multi-round ” due to the addition of this location step.
We can thus imagine a smart contract with 300 lines of code where only the last ten are problematic. It becomes obvious that the version of Arbitrum, which executes 290 lines less, is much more efficient. Thanks to this optimization, Arbitrum can reach a maximum rate of 40,000 transactions per second.
A Custom Virtual Machine
Unlike Optimism, which has chosen to use the Ethereum Virtual Machine (EVM), Arbitrum has built its own virtual machine: the “ Arbitrum Virtual Machine ” (AVM). This allows Arbitrum to have complete control over how transactions and smart contracts.
However, this choice implies the need to translate the source code of all applications wishing to deploy on Arbitrum. This process is automatic, and all programming languages of the EVM are compatible with the AVM (Solidity, Vyper, Flint, YUL etc.), which makes it a lesser evil.
The Arbitrum Ecosystem
Arbitrum is an evolution of optimistic rollup technology. As a result, it is more efficient and less expensive than Optimism, the first iteration of the technology. Being a layer 2 on Ethereum, this solution is preferred over other independent EVM-compatible blockchains.
We can find big names in Ethereum such as Curve Finance, Aave or Uniswap, but also applications essential to decentralized finance (DeFi) on Ethereum such as Balancer, the foundation protocol for advanced decentralized exchanges.
Thanks to the low cost and speed of the blockchain, many DeFi protocols offering yield farming or experimental finance decided to deploy their decentralized applications on Arbitrum. We can thus find algorithmic stablecoin protocols such as Abracadabra, developed by the famous developer Daniele Sesta, or Sperax USD, a newborn of DeFi 2.0.
Like Beefy Finance, Vest Finance or Badger DAO, interest-generating and yield farming applications seem to have chosen Arbitrum as layer 2 over Ethereum.
Low fees also have the virtue of attracting forks of recognized protocols, fueling the drive to improve current DeFi solutions. It includes, for example, Hundred Finance, a multi-channel copy of Compound Finance. Cream Finance, fork of Aave and Balancer, has chosen Arbitrum, among others, to continue its operations following the multiple hacks of which it has been the victim.
Arbitrum is also a breeding ground for all types of DEXs. Indeed, beyond the classic Uniswap or Balancer, there are exchanges offering options like Premia or Dopex, multi-chain DEXs like Synapse or Stargate, DEXs offering perpetual contracts like GMX or even exchanges allowing the purchase and sale of complex assets (funds, leveraged assets, etc.) such as Saddle Finance. DEX aggregators like 1inch and Dodo have also made their way to Arbitrum.
Although the adoption of non-fungible tokens (NFTs) on layer 2 is very slow, Arbitrum seems to be one of the only solutions that have succeeded in attracting artists and liquidity. The protocols and marketplaces are not numerous but are beginning to enjoy a growing volume. TreasuryDAO and TofuNFT are currently the only two substantial marketplaces in the Arbitrum ecosystem.
To allow users to transfer their cryptocurrencies to Arbitrum, many bridges are available. The official bridge, “Arbitrum Bridge”, allows you to migrate your Ethers (ETH) to Arbitrum in complete security. However, because of the dispute period, any transaction that involves the parent blockchain is coupled with a latency of 7 days. To overcome this problem, many third-party bridges such as Hop, Synapse, Multichain or Celer Bridge now support Arbitrum, allowing almost instantaneous deposits and withdrawals.
The image below shows, among other things, an overview of the largest applications deployed on Arbitrum (as of February 2022):
Figure 4: Overview of the Arbitrum ecosystem
With more than $2.3 billion in total value locked (TVL) according to data from Defi Llama (as of April 2022), Arbitrum only ranks 2nd among scalability solutions on Ethereum. Optimism, the original optimistic rollups solution, has almost 10 times less TVL than Arbitrum.
Only Polygon, a very different scalability solution that is less dependent on Ethereum, is ahead of Arbitrum. This positions Arbitrum as the default scalability solution for users and developers looking for the closest solution to Ethereum.
This strong adoption can be explained not only by the speed and low fees on Arbitrum but also by the support that has been given to Arbitrum by the large centralized exchanges. Binance, FTX, Crypto.com, KuCoin and even OKX have all chosen to support Arbitrum and not Optimism, advancing the argument of scalability.
A snowball effect ensues in which users can only use Arbitrum, sucking liquidity from other blockchains, and eventually the number of protocols and so on.
Arbitrum Ratings and Reviews
The second protocol to arrive in the family of optimistic rollups, Arbitrum, has improved the technology initially developed by the Optimism team. This new version, faster, cheaper and more efficient, immediately appealed to Ethereum developers and users. With more than $2.3 billion in TVL at the time of writing, Arbitrum ranks first in rollups and is second only to Polygon when it comes to layer 2.
It would seem that Arbitrum is attracting developers and users from all walks of life, given the offer ranging from big names like Aave or Uniswap to new DeFi and experimental finance protocols like Abracadabra or GMX. The very broad support granted to Arbitrum by centralized exchanges such as Binance or FTX largely contributes to this flourishing adoption.
Arbitrum also has all the advantages sought in a scalability solution. In addition to speed and low fees, ETH is used as a native token, unlike other layer 2 solutions like Polygon. This choice has the advantage of facilitating adoption by allowing users not to have to buy yet another cryptocurrency to interact with the applications.
Although Arbitrum seems to have won the race for optimistic rollups, there are other competing layer 2 forms like Polygon, which still outrank them in TVL. Zk rollups, long described as the logical evolution of optimistics rollups, are beginning to emerge and attract users. These succeed in prioritizing the security and discretion of transactions without losing scalability.