Discussion on the Liquidity Fragmentation Issue in the Era of Layer 2

With Ethereum shifting towards Layer 2-centric scaling solutions and the rise of tools like RaaS, a large number of public chains are rapidly developing. Many institutions hope to build their own chains to represent different interests and seek higher valuations. However, the emergence of numerous public chains has made it difficult for the ecosystem's development to keep pace with the public chains, leading to many projects breaking their issuance price.

With the help of OP Stack, a certain trading platform has launched its own Layer 2, while another trading platform has released a new chain; leveraging ZK technology, a certain trading platform introduced a new layer; a gaming company has released a new chain, and a social platform has launched a new chain, etc. Nowadays, the capital and technical threshold for building a chain has been greatly reduced, with the monthly cost of operating a chain based on OP Stack being approximately 10,000 USD.

The future will undoubtedly be an era of coexistence of multiple chains. Although these Layer 2 chains may choose EVM compatibility for interoperability, it is difficult for them to build applications and reach consensus on the same chain due to the large number of downstream applications behind them.

The current multi-chain ecosystem presents a new challenge: liquidity and state dispersion. Given that the existence of multiple chains is inevitable, interoperability is a field that must be explored and solved. There are currently many liquidity solutions, such as chain abstraction, intent, Clearing Execution, Native CrossChain, and ZKSharding, but their core essence is the same.

We use an industry-recognized architecture to introduce the core components of cross-chain abstraction from top to bottom:

Application Layer

This is the layer where users interact directly, and it is the most abstract layer in liquidity solutions because it completely shields the details of liquidity conversion. In the application layer, users interact with the front-end interface and may not fully understand the underlying liquidity conversion mechanism.

Permission Layer

Located below the application layer, users connect their wallets to the dApp and request quotes to satisfy their trading intent. Here, "intent" refers to the expected final trading outcome (i.e., output), rather than the specific execution path of the trade.

Account Management and Abstraction Layer

Due to the existence of a multi-chain environment, there is a need for an account management and abstraction system that adapts to different chains to maintain the unique account structures of each chain. For example, the object center account system of a certain public chain is completely different from EVM. A certain project has built a trusted account system that does not require inter-chain consensus, only a trusted commitment between existing account systems. Another project achieves abstract management by generating multi-chain account wallets for users, greatly optimizing the user experience and reducing the fragmentation of UX. However, in terms of liquidity, it mainly integrates existing public chains.

Solve Layer

This layer is responsible for receiving and implementing the user's trading intentions, where the Solver role competes to provide a better user experience, including faster trading times and execution speeds. Based on this, various intention-driven solutions have been built for intention-based projects. Derivatives of such intentions, like the Predicate component, can fulfill user intentions under specific rules.

Settlement Layer

This is the middleware layer used to realize user intentions at the Layer 2. The core components of liquidity and state decentralization solutions include:

• Oracle: used to obtain state information from other chains.
• Cross-chain bridge: Responsible for the transmission of information and liquidity across chains.
• Confirm the plan in advance: shorten cross-chain confirmation time.
• Data availability: Providing access to data.

In addition, factors such as inter-chain liquidity, finality, Layer 2 proof mechanisms, etc., need to be considered to ensure the efficient operation of the entire multi-chain system.

Currently, there are various solutions on the market to address liquidity fragmentation, mainly including the following methods:

1. Centered around RaaS: Assist in building Rollup shared liquidity and state on a specific architecture by joining specific shared sequencers and cross-chain bridges. This aims to address liquidity and state decentralization at a higher level.

2. Account-centric: Build a full-chain account wallet that supports signing and executing transactions across multiple blockchain protocols through a technology called "chain signature." The core component is the MPC network, which replaces the user to sign multi-chain transactions.

3. Centered around the off-chain intent network: Users send intents to the Solver network, where the Solver role competes for quotes, providing the optimal completion time and transaction price. These Solvers can be AI Agents, exchanges, market makers, or even the integrated protocols themselves.

4. Centered around the on-chain liquidity network: Build a liquidity layer on which applications are built to share full-chain liquidity.

5. Application-Centric on the Blockchain: These types of applications are built to create high liquidity applications by integrating major market makers or third-party applications.

Solving liquidity problems is a very important proposition; in the financial world, liquidity often represents everything. If we can build a platform that integrates liquidity, especially by consolidating fragmented on-chain liquidity, it will have tremendous potential.

Next, we will discuss several typical projects related to chain abstraction concepts and see how each of them addresses the issue of liquidity fragmentation from their respective starting points.

INFINIT

INFINIT has built a RaaS service for the DeFi sector, which can provide the necessary components for directly building DeFi protocols, such as Oracle, Pool Type, IRM, Asset, etc. It can also offer ready-to-use components like Leverage Trading and Yield Strategy. This is equivalent to other application building ends, but the final liquidity is placed on Infinit's liquidity layer. However, it has not yet disclosed the underlying working principles.

Khalani Network

Khalani has built three core components, namely the Intent Compatibility Layer, Validity, and the Universal Settlement Layer. External applications or the Intent Layer can publish intents to Khalani, and then Khalani's Intent Compatibility Layer can convert external intents into a format recognizable by the protocol Solver, using a standardized format called Validity language. Khalani nodes are responsible for submitting the final results to the Universal Settlement Layer through cross-chain bridges, rapid settlement technologies, and so on.

Liquorice

Liquorice is a decentralized application that enables auction-based price discovery and unilateral liquidity pools. The main mission of Liquorice is to provide professional trading firms with efficient inventory management tools and to easily connect to core DeFi protocols when settling trades with intent to use. At the same time, Liquorice has created a lending market for its lending transactions. This application focuses more on the trades themselves.

Xion

Xion is built on the Comet BFT consensus protocol. Its cross-chain communication is based on Cosmos IBC, making it more native and secure than other cross-chain bridges.

=nil; Foundation

nil is a ZK computing power market, ZK co-processor, and Layer 2 developer for Ethereum, with a team that has a solid foundation in ZK technology. They proposed the zkSharding solution, which uses ZK technology to horizontally scale the Ethereum mainnet, execute sharding for parallel transaction processing, and generate ZKP, while the main shard verifies data, communicates with Ethereum, and synchronizes the network state among all validators.

ERC-7683

Ethereum is also working to address the issue of cross-chain liquidity. Currently, a certain public chain and a certain DEX are the first to publicly support the ERC7683 standard, which is also based on an Intent-based cross-chain approach. Its core goal is to establish a universal standard for cross-chain operations between Layer 2 and sidechains, standardizing order and settlement interfaces to achieve seamless cross-chain execution. The main core is a Filler, which can also be regarded as the Solver role in chain abstraction for payment.

OP Stack

OP Stack, ERC-7683, and zkSharding are all solutions for the fragmentation of liquidity between Layer 2s within Ethereum, addressing the issue at the architecture level, consensus level, and application level, respectively. OP Stack solves the problems of information transmission and Sequencer decentralization in one go by designing a complete multi Layer 2 solution. When you use the OP Stack architecture, cross-chain contracts will be automatically deployed, and there will be a Supervisor to challenge and prevent the transmission of false cross-chain information.

Among them, a typical example is Unichain. Unichain primarily addresses the issue of cross-chain liquidity fragmentation through integration with the Superchain network. This setup facilitates seamless liquidity movement by providing the following functionalities:

Intent-based Cross-chain Bridge: This bridge supports fast and reliable liquidity transfer between blockchains, allowing users to set their intentions, thereby helping the system automatically choose the best path for liquidity movement. This approach abstracts complexity for users, making cross-chain transactions smoother and faster.

Unichain Verification Network (UVN): This decentralized node operator network verifies cross-chain transactions, providing faster economic finality. Faster finality is crucial for ensuring efficient settlement of cross-chain transactions, thus minimizing the risk of liquidity fragmentation caused by delayed settlements.

Flashblocks and Verifiable Block Construction: By using Flashblocks, Unichain significantly shortens block time, improves the efficiency of liquidity providers, and achieves a more synchronized cross-chain market. Flashblocks help ensure that liquidity is available at all times and reduce the negative impacts caused by block confirmation delays, which can lead to fragmentation of liquidity.

Summary

Solving the problem of cross-chain liquidity is a very complex field with many solutions. For example, Layer 2 solutions include embedded cross-chain messaging from Ethereum, especially ERC-7683, as well as Layer 2 solutions like OP built on the OP Stack to share the Sequencer. Outside the context of Layer 2, all Layer 1s also face issues of liquidity, state, and user experience fragmentation. There are dedicated liquidity-focused applications, as well as off-chain solutions from Solver Network, and even account-centric solutions, but they also need to be based on off-chain roles like Solver.

We recognize that the fragmentation of cross-chain liquidity, state, and user experience is a problem for the entire blockchain industry. If we think about it holistically, we need to approach it in a more abstract way, similar to chain abstraction. This is essentially the true entry point to Web3, solving the fragmentation of user experience while integrating liquidity and state in ways that users cannot perceive. How to specifically integrate this can be further divided into using off-chain Solver networks and atomic integration with cross-chain bridges and other facilities, all of which are worth exploring. Overall, the future will definitely be multi-chain, and addressing the issue of fragmented liquidity is a challenge that the industry must inevitably face. There is vast growth potential in this integration of full-chain liquidity, which may lead to the creation of a new ecosystem in the Web3 era.