Why Can Layer-2 Gas Fees Go Higher Than Ethereum?

A common misconception with the emergence of layer-2 and rollup protocols within Ethereum is that they will automatically come with cheaper gas fees and easier transactions for users. While this will largely be the case and is the intended goal, it is by no means impossible for a rollup to suffer from high fees, especially in its current nascent form.

This is precisely what occurred in early July. For a brief period of time, transaction costs on the popular L2 protocol Arbitrum actually surpassed that of Ethereum in cost. This is due to Arbitrum running an incentivized user program, Odyssey, in which users complete certain L2 transactions and get rewarded in NFTs. Because Arbitrum is rumored to release its own token in the future, airdrop hunters ferociously gamed the Odyssey program in an attempt to qualify for the potential future airdrop. Ultimately, Arbitrum traffic far surpassed what the team anticipated, and they made the decision to shut down the Odyssey program until the launch of their future upgrade, Nitro. Nitro is an upgrade to the Arbitrum One mainnet. Nitro helps Arbitrum adopt popular languages and tooling such as WASM, Geth, and Golang, allows Aributrum to increase transaction speed 20-50x, and lowers fees by an entire order of magnitude. Nitro will also allow more Ethereum developers to onboard onto Arbitrum thanks to the expansion of support for larger tooling.

Offchain Labs have announced Arbitrum Nitro is ready, and a full-featured Nitro devnet built on Ethereum's Goerli testnet has been launched.

How Arbitrum Gas Fees Surpassed Ethereum

The Odyssey event saw a massive increase in user participation on the Arbitrum network. In fact, daily transactions nearly tripled from ~100,000 to ~300,000 with the launch of Odyssey as users flocked to take part.

Arbitrum Daily Transactions Chart — A chart showing the daily transactions on Arbitrum. (Source: Arbiscan.io)

This spike led to Arbitrum gas fees surpassing Ethereum’s. Arbitrum pausing Odyssey in response to this spike event was mostly to ensure relative stability for any on-chain entities for Arbitrum until transaction throughput is improved. This doesn’t necessarily explain the full story here, however.

How Blockchain Transaction Costs are Determined

Users generally expect that L2 protocols like Arbitrum will always have lower transaction fees than Ethereum as it is meant to be a form of scaling solution, off-loading transactions from Ethereum to other networks.

This isn’t always true, though. Transaction fees do not care whether a protocol is an L1 or L2. Fees are simply a function of demand for limited block space on a network. The higher the demand, the higher the transaction cost.

The demand side and supply side of blockchain transactions costs. — Transactions prices are a demand-side function. (Source: Paradigm Research)

For example, if Ethereum had no block demand, transactions would be extremely cheap. Ethereum is the most in-demand blockchain network in the space, leading to significant costs for users when it comes to transactions.

L2 protocols like Arbitrum help lower the block demand on Ethereum by off-loading it to layer 2, but when demand on L2 networks like Arbitrum spikes - so does the cost of completing transactions. It all comes back to actual block demand on the network.

This ties back into the struggles of some alternative L1 blockchains attempting to compete with Ethereum. Many argue that their own TPS and transaction throughout is far higher than Ethereum’s, pointing to testnets showcasing this. However, this means nothing compared to real-world demand. Any network can be cheap and fast without the demand that Ethereum faces daily. The same goes for L2 networks.

Optimistic Rollup Nuances

In the case of Optimistic rollups, no computation is actually done. ORs “optimistically” assume all state changes are valid and post the off-chain transactions to Ethereum’s layer 1 as calldata. To counter any potentially fraudulent transactions, a challenge/dispute period is put in place for ~one week after posting to L1. During this time, any third party can publish a fraud proof to verify the validity of the transactions across L1 and L2. If the transactions are found to be invalid, the invalid transactions and all affected transactions will be reverted. Arbitrum, Optimism, Boba, and Fuel are examples of Optimistic rollups.

However, posting this calldata to L1 is still expensive, and, for the moment, many rollups have not optimized their settings to reduce this function. As of Q3 2022, the primary cost associated with a rollup is the cost to post calldata (discussed further below) to L1 Ethereum. Optimism, an OR implementation, posts data to the Ethereum L1 for every transaction. However, some ZKR implementations, like dYdX, only post to the mainnet to reflect every account balance. Because of this approach, dYdX interacts with L1 only ~20% as much as Optimism, equating to a roughly 90% reduction in fees.

A scalability equation — Rolling up transactions includes posting calldata which can still be expensive, as shown in this scalability equation. (Source: Jon Wu/ Medium)

Calldata is a specific form of read-only memory data used by smart contracts to call external functions. Once a rollup has batched enough transactions, it is expected to post this state transition change in a compressed form to the L1 via calldata. Rollups currently utilize L1 calldata for data storage, which is limited to ~10KB per block. They do this so that anyone has the ability to reconstruct the chain and verify the latest state.

Infographic: verifying a block — A simple flowchart showing how users verify a blockchain's state. (Source: etherscan.io)

Posting the calldata onchain is what allows Ethereum and its robust, decentralized network of nodes to “check the work” done off-chain. Instead of doing the computation, the calldata enables the Ethereum mainnet to quickly and easily verify that everything done off-chain was valid and accept the state changes, i.e., double-check the work. Additionally, the availability of data on the Ethereum L1 means that any computation completed on a rollup can be redone by the Ethereum base layer if needed. Without sufficient data availability, transaction execution becomes opaque/ a black box that cannot be audited by the L1.

Currently, the cost of posting calldata to L1 Ethereum is 16 gas/byte. EIP-4488 proposed lowering the cost of calldata to 3 gas per byte, while EIP-4844 is a separate proposal to create a new data format specifically designed to lower the cost for rollups of posting data on Ethereum.

Summary

The key takeaway here is that block demand determines the cost of utilizing a network. It has nothing to do with the type of network it is - L1 or L2. Arbitrum, Optimism, and other projects that have cropped up as Ethereum’s layer 2 have emerged as popular options to generally have lower transaction fees than the mainnet.

The problem here is that as that demand rises, so too does the cost of using those networks. The absolute best way to lower transaction fees over time is to simply keep building, innovating, & developing. As more sidechains & L2 protocols are created, this will assist in off-loading some of the demand on the Ethereum mainnet. There are also the coming improvements of sharding & other scalability solutions that are expected to be integrated onto Ethereum in the future.

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