What is a Layer 3 Crypto?

Summary: Layer 3 networks enhance the scalability of Layer 2 platforms such as Arbitrum and Optimism by providing specialized functions for various applications. These enhancements focus on privacy, application performance, and optimization tailored to particular sectors like DeFi or on-chain gaming.

Notable examples include Degen Chain, which serves the Farcaster community, and XAI, a gaming ecosystem developed on Arbitrum. These implementations demonstrate how Layer 3s adapt and expand blockchain capabilities to meet specific needs.

What is a Layer 3 Crypto?

Layer 3 in the blockchain stack refers to a development stage that builds on the capabilities of a Layer 2, like Arbitrum or Optimism. Vitalik Buterin, in his paper "What kind of layer 3s make sense?", describes Layer 3 as targeting specific needs that enhance blockchain functionality further than Layer 2's general improvements in transaction speed and efficiency.

Layer 3’s, also called appchains, are designed to offer tailored features for specific applications, enhancing speed, costs, privacy and meeting unique requirements. This level of customization supports a more modular and robust blockchain ecosystem, addressing complex challenges that the previous layers cannot handle alone. 

Vitalik imagines Layer 3 as not only improving scalability, but also enriching the blockchain with greater modularity that aids in the nuanced design and operation of applications. This makes it a critical component for advancing Ethereum’s moat as the most robust ecosystem of smart contract platforms.

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Layer 3 Examples

Layer 3s, which includes appchains supported by data availability networks such as Celestia, have captured the attention of cryptocurrency investors. To familiarize our readers, here are four notable examples of Layer 3s that are currently operational on the mainnet:

• Degen Chain: Operating on Base, this Layer 3 fosters a niche community within the Farcaster network. It rewards users with DEGEN tokens for contributing high-quality content, focusing on community-driven value creation.
• XAI: Aimed at enhancing the gaming experience, XAI is a Layer 3 built on Arbitrum. It is designed to support on-chain games like Axie Infinity and Gods Unchained, optimizing in-game transactions and functionalities to provide a smoother player experience.
• Kinto: As a Layer 3 on Arbitrum, Kinto caters specifically to institutional investors by offering a KYC-enabled DeFi ecosystem. This setup ensures a secure, compliant platform for sophisticated financial activities and investments.
• Dream Machine Token: Another innovative solution on Arbitrum, DMT targets the gaming industry. It offers a mix of native games, including a streaming service and options like poker, creating an extensive entertainment hub on the blockchain.

These platforms demonstrate the capacity for Layer 3 technologies to tailor blockchain utility for specific industries and needs, enhancing the overall functionality of underlying networks.

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Layer 2 vs Layer 3

Layer 2 and Layer 3 hold critical but different roles. Layer 2 is primarily about scaling up the base layer of blockchains (Layer 1), such as Ethereum, by taking on some of the computational demands. This is key for increasing the number of transactions that can be handled efficiently, with platforms like Arbitrum, Optimism, and zkSync standing out for their effective transaction processing capabilities.

Layer 3, however, expands upon the groundwork laid by Layer 2 by adding more specialized functionalities and customizations tailored to specific needs, such as enhanced privacy solutions that are not typically part of public Layer 2 systems.

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Layer 3 Security Risks

Layer 3 in blockchain architecture, while providing advanced functionalities, inherently carries more risks due to its separation from the base layer (Layer 1), such as Ethereum. Each additional layer introduces a further step from the core settlement layer, amplifying potential security vulnerabilities.

As users engage with Layer 3, they encounter increased risks related to smart contracts and potential issues from network or sequencer dependencies. These risks stem from added complexity in the contract logic and the extended chains of trust required to operate across multiple layers. 

Platforms like L2BEAT provide a helpful resource that assigns risk scores to layers 3’s based on their smart contracts, state validation, sequencer design and other factors. We encourage users to review the platforms they intend to use prior to bridging assets.

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Bottom Line

In conclusion, Layer 3 technologies in the blockchain ecosystem enhance functionality beyond what Layer 2 solutions can offer by providing specialized features tailored to specific applications. These include improvements in privacy, speed, cost efficiency, and modularity, making Layer 3s vital for addressing more complex requirements that Layer 1 and Layer 2 cannot sufficiently resolve. 

However, users must be aware of the increased risk associated with these additional layers, including vulnerabilities in smart contracts and network dependencies.