What Can You Trust in a Trustless System —

Client concentration risk 

“Clients” are the software packages that each validator node is running to execute transactions, validate the proposed block and send attestations of its validity. A bug in or an attack on this client software could take validators offline and compromise the consensus mechanism: If there are insufficient validators to provide consensus, new blocks cannot be finalized and, therefore, do not achieve immutability. This occurred on Ethereum in May 2023 (see sidebar “When client risk materializes: Ethereum’s delayed finality event in May 2023). Client diversification is a stated aim of the blockchains addressed in this report: Different software packages are built by different companies, to the same specification, but using different coding languages and structures. This builds some redundancy into a blockchain’s consensus mechanism because a bug affecting one client would only affect the validators using that client software. The risk that such a bug could delay block finality is a function of client concentration risk: If there is sufficient diversification of clients, a client issue will not in itself affect sufficient validators to prevent finality. 

Client diversification is generally improving over time as new clients emerge; however, material concentrations remain. All three blockchains discussed in this report are exposed to client concentrations that exceed the 33% threshold that can lead to finality issues (see the chart “Risk of cyberattack on Ethereum”). Having launched more recently, Solana and Polygon both have higher client concentration than Ethereum; therefore, if a client bug arises, it is more likely to disrupt these blockchains (see the chart “Major outages on Polygon and Solana”). Currently, there are two available clients for use on the Solana blockchain, although the development of new clients is underway. 

Governance and social layer 

The validator consensus mechanisms described above form a blockchain’s on-chain governance. It is also important to understand which aspects of a blockchain may change over time, as well as the process, timeline and visibility for future changes, and who the decision-makers are. This governance happens off-chain through information sharing (a social layer), change management (governance structure) and a core developer team that often drives the creation, major changes and funding of innovation for a blockchain. While many participants in these types of governance are also participants on-chain, understanding their off-chain roles, responsibilities and interactions is important to understanding how a blockchain may evolve. On-chain features and risks are baked into a blockchain’s coding language, smart contracts and structure. If the participants or the community want to address these risks or create different opportunities, they must rely on the other off-chain factors of governance (see the chart “Governance and social layer”).

These layers of governance work together to address any changes for the blockchain. Changes can be small and compatible with previous blocks. More significant changes can cause a “hard fork” of the chain. If the community does not achieve consensus on such changes, different participants may choose the new path or stay on the existing one, effectively creating two blockchains and letting market forces determine which one is used. 

This level of interaction and responsibility enables community coordination that can help protect the network from bad actors and resolve any technical vulnerability that may arise. During an attack or bug event, information can be shared quickly through various communication boards, and core developers can coordinate with client team developers to test and implement fixes. This has been a major factor in limiting the impact of outages and finality delays, which to date have generally been resolved within hours. 

Ethereum, Polygon and Solana follow a broadly similar blockchain change management process, which engages the broader community of developers and stakeholders. There are some nuances in how a proposed change is reviewed and implemented, how long it takes to implement and who can approve. There are also potential trade-offs to manage between decentralization (involving the broader community in a decision) and the need to make rapid changes in a crisis.

None of the three blockchains discussed in this report currently include a formal token holder voting mechanism to implement changes, although recent discussions within the Solana community are exploring this. Where such a mechanism exists, key considerations in assessing governance risk include: 

– The role that a governance token may play in approving certain decisions, where applicable. 

– Any large concentration among the holders of such governance tokens. 

– Whether the benefits accruing to these holders incentivize the safeguarding of the protocol.

The social layer: Led by the masses 

A blockchain’s social layer is made up of its developers (core developers, client developers and application developers) and users more broadly and serves several important roles. When reviewing the on-chain improvement process, it is the members of this community that often propose improvements and discuss as a group their views on the proposed changes. These open-forum discussions aim to identify potential pitfalls and desirability prior to implementation and allow coordination between development teams. Looking at the number of active developers for each blockchain is one indicator of the level of community engagement.  

Based on data from Electric Capital’s developer report, the number of active developers has grown for all three chains over the past five years, and very rapidly for Solana and Polygon. As the oldest of the three blockchains, Ethereum’s growth is slower; however, it maintains by far the largest active developer community. 

Does creators’ continued involvement in blockchain governance constitute a risk?  

The Ethereum Foundation, Polygon Labs and Solana Labs are entities set up by the creators of these respective blockchains. These entities (non-profit organizations or firms) can help fund innovation and drive new ideas within the broader community. As such, they play an important role in governance discussions. In considering a long-term financial use of these blockchains, potential users must, therefore, understand these entities’ visions for developments to their blockchain. However, it is also important to understand that each blockchain could continue to operate without these entities. Given the open-source nature of a public permissionless blockchain, the remaining social layer could continue to use and support the chain’s existence.

How blockchains scale 

The initial design of Solana prioritized security and scalability over decentralization. By maximizing transaction throughput potential, Solana required advanced hardware to be a validator. This effectively limited validators initially to professional operators, with the expectation that over time, hardware improvements would allow decentralization to a broader network of validators. In contrast, the design of Ethereum initially prioritized decentralization, with relatively low validator hardware requirements but accepting the resulting limits on transaction throughput, with the expectation that developments to Ethereum itself would improve scalability. Ethereum’s roadmap to improve scalability over time features a “modular” blockchain architecture, where further blockchains (“layer 2 roll-ups”) that are optimized for scalability can be built on top of the main Ethereum network. This contrasts with Solana’s “monolithic” design where scalability is achieved within one blockchain.  

How do Ethereum’s layer 2 roll-ups work? 

Roll-ups work by grouping transactions, executing them on a separate blockchain (the “roll-up chain”), and then posting the new state information resulting from these transactions back to the Ethereum blockchain (“layer 1”) as a single transaction. Executing transactions on layer 2 significantly reduces the computation load on layer 1, as well as the transaction costs paid by users because the single transaction cost on layer 1 is socialized across all users who have submitted a transaction on layer 2. Posting data back to layer 1 ensures that layer 2 benefits from the same security guarantees as layer 1 in terms of immutability and data availability across all nodes on the chain (see the chart “Addressing Ethereum scalability through layer 2 roll-ups”). 

A key consideration in layer 2 roll-ups is how to ascertain the validity of the updated state that is posted back to layer 1 when transactions have been executed. There are currently two models: 

Optimistic roll-ups assume all the transactions are valid unless proven otherwise and rely on the active participation of users to identify and prevent invalid transactions. If a user identifies an invalid transaction, it is up to that user to challenge that transaction within a set challenge period (usually seven days) by providing a “fraud proof.” The roll up smart contract on layer 1 verifies this fraud proof, and if a transaction is confirmed as invalid, the roll-up chain is rolled back to the state prior to the invalid transaction. Users cannot withdraw funds from a roll-up smart contract immediately because the withdrawal transaction can only complete once the applicable challenge period has terminated.

Zero-knowledge roll-ups provide validity proofs along with the new state information using ZK proof systems, a cryptographic solution that verifies the truth of a given statement without conveying any information about the truth. This means that the validity of transactions is confirmed instantaneously without the need for user intervention or any subsequent challenge period. The transmission of ZK proofs has a low computational cost and, therefore, boosts scalability; however, the computation of the proofs is more intensive and can lead to latency issues. Beyond scalability, ZK research is also focused on enabling privacy in blockchain applications, potentially supporting regulatory compliance for financial institutions and overcoming a major roadblock for institutional adoption. ZK proofs allow for verification of the truth of a specific statement (for example, the exclusion of a user from a set of sanctioned individuals) without transmitting all data about that user and their transaction history. For more information. (See Blockchain Privacy and Regulatory Compliance: Towards a Practical Equilibrium by Vitalik Buterin, Jacob Illum, Matthias Nadler, Fabian Schär and Ameen Soleimani.)

Key risks of layer 2 roll-ups 

Roll-ups are more complex than the Ethereum mainnet because they aim to add functionality and speed. This makes them more susceptible to outage risk. They are also relatively recent technological developments that will be battle-tested as they scale, which may identify vulnerabilities that need to be addressed. This is particularly true for ZK roll-ups, where the “unknown unknowns” represent a risk. Beyond the broad risks associated with complexity and technological innovation, roll-ups include specific risks and dependencies that must be understood when considering their use for a financial application. 

The following risks apply to both optimistic and ZK roll-ups: 

– Upgradability: The smart contracts underpinning both types of roll-ups are upgradable, introducing a dependency on whoever can amend the code. Currently, the development team behind each roll-up can change the code in the smart contract, generally subject to multi-signature approval, where any nine out of 12 keys in a multi-signature wallet must approve the change (and the bulk of these keys are held by the development team). In some cases, decentralized autonomous organization (DAO) governance is in place, and DAO approval is needed for any change, although DAOs themselves can carry their own voter concentration risks. On one hand, this can mitigate the risk associated with the novelty of the technology because a vulnerability that is identified can be addressed quickly. On the other hand, it introduces a trust assumption that users need to be aware of. 

– Reliance on a central sequencer: The sequencer orders transactions in the batch to create the new state to return to layer 1. Although most roll-up developers claim that eventually this role will be decentralized, currently, roll-ups rely on a central sequencer, creating an operational dependency. From a user’s perspective, the actual risk exposure to the sequencer is not critical because there are limits to what a sequencer can do: It cannot withdraw funds for itself, amend or directly censor transactions. 

The following risks apply to optimistic roll-ups only: 

– Optimistic fraud proofs: At their core, optimistic roll-ups rely on the assumption that someone will challenge an invalid state if one occurs. One way for a user to get comfortable with this assumption is to act as a fraud prover themselves, which is possible where permissionless fraud proofs are enabled. At the time of writing, however, fraud proofs were live on Arbitrum One but not on other major optimistic roll ups such as Optimism or Base (according to L2Beats, a blockchain analytics company). 

– Risk of a delay attack on an optimistic roll-up: Any user can challenge the validity of a given transaction on an optimistic roll-up by providing a fraud proof during the challenge period (typically seven days after a transaction is executed.) If a fraud proof is submitted, this starts a resolution period (typically, a further seven days). During the resolution period, transactions cannot be confirmed, and users cannot withdraw funds from the roll-up. If a further fraud proof is provided during the resolution period, a new resolution period is initiated. Therefore, an attacker could plausibly submit repeated fraud proofs on valid transactions to prevent the layer 2 from operating.

Layer 2 adoption

Layer 2’s lower transaction costs and fast throughput have supported relatively rapid adoption since the first optimistic roll-ups went live in 2021 (see the chart “Daily transactions on Ethereum mainnet and selected layer 2 roll-ups”). ZKsync was the first ZK roll-up to go live on top of the Ethereum mainnet in March 2023, and the novelty of the technology has contributed to limiting adoption so far. Base is the latest optimistic roll-up, launched by Coinbase, a leading crypto exchange, in August 2023 (see the sidebar “’Base’: Coinbase’s optimistic roll-up”). It has quickly matched Optimism and Arbitrum in terms of daily transaction count, boosted by Coinbase’s customer base and brand recognition.