The Trillion Dollar L2 Opportunity | Part One

Welcome to Bankless, where we explore the frontier of internet money and internet finance. This is how to get started, how to get better, and how to front run the opportunity. This is Ryan Sean Adams. I'm here with David Hoffman, and we're here to help you become more bankless. Guys, there is a massive opportunity. We've called it a trillion dollar opportunity in the layer two world. We want to unpack it. We're going to do that in two parts, in two episodes. The first episode is the one you are about to hear. We're going to talk about ether economics in this episode. What do L2s, the coming of L2s, do for the price of ETH? Is it beneficial? Is it parasitic? Will we actually get in a layer two season with layer two tokens? We unpack all of that. In tomorrow's episode, there's going to be a part two where we talk about public goods, how they are the killer app of these layer twos, how you can work for these layer twos and work and uh to receive public goods funding, and how layer twos will ultimately win the battle for hearts and minds using public goods funding and economics. David, that episode is coming out tomorrow. The one we are about to listen to is today. I'm really excited about these episodes. And by the way, there's no guest, it's just you and I. What uh can listeners expect to hear?

Oh, it's it's it's classroom time with Ryan and David, man. It's gonna be great. There's so much information to get out there. And each one of these episodes represents its own opportunity. Uh and and people who generally think that like public goods, those are the things that you donate to, or those are the people that work towards just, you know, public goods. And there's no upside there because they're public goods, you're wrong. This is where this is where things change. And this is the beautiful mechanism of retroactive public goods funding, where we are injecting Silicon Valley type upside potentials into people that build public goods products. And this is something that has never before seen on the face of this earth or in crypto economics at large. And so if you think that that is just like, oh, Ryan and David talking about public goods, no, we're talking about alpha. And we're gonna tell you about how you can get potentially the billions of dollars that are going to be generated from MEV and block space sales on layer twos and how that can go into your pocket when you build something useful for these layer twos. But that is all in episode number two, which is coming out tomorrow. Layer episode number one, which you're uh are listening to right now, is all about how the ether economics change and w in a layer two paradigm. Uh, as Ryan said, and of course, as we ended this podcast, we talked about perhaps the liquidity mining incentive programs that may or may not be coming for these layer twos. And of course, as we hit stop on the recording, we just launched or we just heard that Optimism launched its layer two liquidity mining program. Uh so you know these things are coming. They are here today, uh, and we can start building towards getting some of that money into our pockets right now. And that is all about all of these opportunities that layer two offers for for you, for me, and for the world.

Guys, uh fantastic episodes coming up for you. If you like these episodes, make sure you like and subscribe. Of course, if you're watching on YouTube, make sure you subscribe to the channel. If you're on the podcast, uh, make sure you're subscribing to this feed. Okay, we're gonna get right to the episode. But before we do, we want to thank the sponsors that made this episode possible. Hey guys, welcome to a classic David and Ryan episode. This is just the two of us. So I I think maybe the format is uh David, I'm gonna be kind of interviewing you and then adding color commentary because this is something that you wanted to talk about a while. Uh, we're talking all about uh layer two and the possibilities in layer two at the ETH level, the Ethereum level, at the layer two level, and then working on public goods. So um I don't have to introduce you. Guys, this is my co host David. How's it going, man?

Good. This is my co host Ryan. How are you doing?

I'm doing great. Why are you so excited about layer twos, David?

Oh, because there's just so much surface area for opportunities, Ryan. Like you listed them off. Like the the opportunity for ether, the asset, to become even more money are huge. And so there's there's things to talk about that uh with that, like how layer twos will impact the ETH burn rate, how layer twos will impact reservation demand for ETH, uh, how layer twos impact the the staking rate of ETH, the APY you can get from staking ETH on the layer one. And that's just with ETH. There's also bridge opportunities and yield opportunities. There's also the layer two token themselves. Uh each one represents an opportunity in and of themselves. There's also the opportunity, Ryan, to spin up many, many layer twos. Uh, and so these things are infinitely forkable and infinitely copy and pasteable. Uh, and there's all of these economic things to discuss. And that's even before we get to the secret opportunity that so few people are talking about, which I think is going to put billions of dollars into entrepreneurs' hands over the next 12 months and ultimately become to a trillion dollar industry, which is fighting for what we call retroactive public goods funding, where public goods turns into upside as the same level as like uh Web 2 Silicon Valley startup exposure, but for building public goods products. I think, Ryan, this is a coming trillion dollar opportunity over the next decade, and we are on the cusp of seeing this ball really get starting to roll. So I want to make sure the Bankless Nation knows what's coming because there is a lot of opportunity just over the horizon.

If you're playing a bankless drinking game this episode, uh please do not use opportunity as your word because I think I counted like eight times or something that David just said opportunity. And I think, look, that's the that's the theme of the show. Is there's this new uh white space that has opened up in front of us, this new horizon, which is layer two, and it has so many opportunities for for expansion. It's like crypto is new again, right? Like uh you missed out on original Bitcoin in 2013, you missed out on uh Ethereum in 2015, 2016. Well, now layer twos are open for you, and there's so much that needs to be built out in this ecosystem. So we're gonna talk a lot about it. Okay, let's start here with the bull case for ETH, because you and I believe.

Layer twos are actually bullish for ETH the asset. Not everyone believes that. In fact, I've been seeing a lot of things on Twitter, a lot of pushback about this, saying uh layer two tokens in particular and layer twos themselves are actually parasitic to Ether the asset and to Ethereum the network. So let's spend some time talking about the opportunity that is ETH in a layer two world. But let's start with that question, David. Do you think layer twos cannibalize Ethereum? Do they cannibalize the layer one, especially with them launching their own tokens? Are these tokens going to be competitive with Ether as an asset?

I think if we saw layer twos having their own tokens and those tokens become instantiated as money in those layer twos, then the argument for do layer twos cannibalize Ethereum would be a lot stronger. But I do not see that actually shaping up to be the way that layer twos work. The way that the if the trajectory seems to be is that layer twos are probably going to all issue their own tokens. Optimism just announced their token. If you're paying attention to Arbitrum, you kind of know that they're probably headed in that same direction as well. And there are other layer twos that also have their own tokens, but they all accept Ether as money inside of each one of those ecosystems. And so Ether is the currency inside of Optimism inside of Arbitrum. And even on Arbitrum you call it AETH, and on Optimism you call it Optimism ETH. And this is the native currency of these layer two chains. Now, part of the argument for these layer twos being parasitic for the Ethereum layer one is that they sap away transaction demand from the layer one and they put it on the layer two. And so, well, you know, clearly it's parasitic because if we're taking away transactions from the base chain, uh, where the which is the chain that pays for security, and we put it on the layer twos, then like, well, that revenue is going to a different spot. And now it's going to revenue for the Optimism token or the Arbitrub token or the ZK Sync token instead of actually being paid for Ethereum validators. Uh and like, yeah, this is true to some degree, uh, but you have to remember that layer twos are blockchains that also settle on Ethereum itself. So all of the revenue that all of these layer twos create from selling their blocks, that turns into block space demand for the Ethereum layer one. So the way that I explain these to a lot of people is that they are like solar panels for economic activity that hook in, that plug right into the Ethereum layer one. So optimism, Arbitrum, big solar panels, big solar arrays, they get the the uh how big these solar panel fields are are a function of how cheap their fees are, because the cheaper the fees, the more economic activity they can support. And so by reducing fees on the layer twos, they actually are inducing more total economic activity that otherwise wouldn't have been available on the Ethereum L1. I mean, optimism and Arbitrum and layer twos, they're not pulling away economic activity that requires less than five dollars per transaction because that economic activity simply doesn't exist on the layer one. They are actually creating that on the layer two and acting as an aggregator of economic activity and injecting it into the layer one. So, in some ways, they do borrow from uh economic activity on the layer one, but it's stuff that should have been on the layer two to begin with, and it always aggregates and puts it back onto the layer one at the end of the day.

Yeah, you know what this argument reminds me of is um basically have you seen this have you ever seen this map, David? This is a map of uh this is a map of the US and uh the US states in this in this map, looking at this on um on YouTube, if you can see the visual, but we'll try to include a link in the show notes. This is US states renamed for countries with a similar GDP. And if you look at uh the state of California, it is a similar GDP as the United Kingdom. Um Texas is similar in size to Canada, the nation state. So one state in the United States is uh the size of a major G7 country, Canada. Uh Florida is the size of Indonesia, New York State is the size of South Korea. And uh I think like L2s, the argument that L2s are parasitic to Ethereum would be kind of like saying New York, California, Texas, and Florida are parasitic to the US economy. It's like, no, these are part of the US economy, right? It's like uh not everything has to happen, not all of the GDP has to be produced at the uh at the federal level. In fact, the GDP of the US is the sum of all of the GDP, the economic activity of its states, of its vassal states. And you know, these uh these states they have different tax codes and they have lots of autonomy, but they still adopt the coinage of uh the US government, for example. They still receive the defense and security protection of the US military as well. And they are uh they are states in a union. And so to me, this is uh this is a very useful analog, right? It's like they're all part of the same Ethereum nation, if you will. And Ethereum is is kind of a united, united uh set of chains after a fashion. You can also see this, David, in if you go to like uh the burn leaderboard here, right? These are actual applications paying their taxes, they're consuming Ethereum block space. And right now you see things like ENS and OpenC at the top. We expect that a lot of these things will move to layer twos over time. A lot of this economic activity, even when you scroll down a little bit farther, you start to see Arbitrum. How much over the last day did Arbitrum pay in taxes? Oh, 33 ETH. I expect someday this entire burn uh leaderboard will be full of layer twos, essentially.

Chains, yeah.

Yeah, the the demand is going to we've said this in the past the demand is using moving on Ethereum mainnet from block space demand, that is, from users and to applications. We've already seen kind of that transition. And ultimately it's going to land, it's just other chains that are primary going to be the primary block space consumers. And so all this is additive to the economic, you know, uh impact, the economic throughput of Ethereum. It's like a a union of chains, not completely separate chains. That's the that's a useful analog to me when I think about this.

And I I really like that the states model because there is huge benefits from all of these different countries turning into something more interoperable than separate sovereign nations and being more like states where you can just freely walk across borders from California to Oregon to Washington or eventually from California and walk all the way to New York. Like trade can happen across all of these things because they all settle on the same protocol.

Have a highway system, interstate highway system.

Exactly. And like there's no there's no tolls between California and New York. Well there's probably some. But the point is, is like you can drive from California to New York without ever having to prove your uh prove your citizenship or have to you don't have to pay like tariffs or like you know uh trade trade taxes because we're all on the same protocol. And so the growth of the Californian GDP has spillover effects to every other state. Uh and so it's pretty crazy when you see the country the city or the the state of Texas being as large as uh all of Canada, the whole entire mass of land that's above America, but it's as efficient as the smaller mass of land, which is Texas. Uh and like United Kingdom, the former like empire of the world, uh is equal to just California, just one of 50 states. Uh and so like this collaboration of layer twos is a very much a growing the pie ecosystem that all ultimately comes and settles down to the main Ethereum layer one. And so it's giving optionality and it's giving uh autonomy to every single layer two to do what's best for themselves. And layer twos will therefore have to do what's best for their users because that's their job. Their job is to aggregate users' economic activity to make it cheap, uh, and then ultimately come and secure that with the main Ethereum layer one.

Let's talk a little bit more about the uh the economics in this layer two world. So uh what about layer two fees? What happens to layer two fees? So I can pull up a chart in it in a second, layer two fees like optimism, it's hanging out at about you know 50 cents, call it to like 90 cents, some for that rain. Arbitrum's the same. Some of the ZK rollups are around 10 to 20 cents, I believe. Uh, you know, some of this is from memory. And you compare that to mainnet, and the mainnet transaction might be like eight dollars, ten dollars or something. Uh so on the order of a 90% to 95% reduction in fees. But will it always be like that or will LTU fees increase over time?

Yeah, there are reasons why layer two fees will go up and also reasons why layer two fees will go down. The near-term impacts of layer two fees is definitely down because we are just at the beginning of layer two optimizations. There are layer things that all of these layer two teams can do to make their fees go down that they're responsible for. But then there's also EIPs, like EIP 4484, I think is the right uh number, some combination of fours and eights, uh, where like the it reduces the cost of call data on the Ethereum layer one, which is going to uh drop layer one, layer two fees by an order of magnitude. Uh and then there's also sharding. As soon as sharding comes into play, we have layer two fees going down by another order of magnitude. And so like each one of these different um uh subsets, like a development on the layer twos themselves by the layer two teams, uh, EIP 4484 uh for reducing call data costs, and then also adding in sharding, each one of those represents an order of magnitude fee reduction and can kind of finally get us down to what Vitalik calls the internet of money with sub five cent transaction fees and probably much lower than that. Now, uh we can also increase transaction fees by just the normal way that you would do that, which is increasing the demand for block space. So as block space gets uh consumed uh and it has more and more demand, as we've seen the Ethereum layer one, you can see fees go up. Uh and you've and this is why like things like Arbitrum and Optimism have somewhere between like 25 cent uh to one dollar transaction fees, because well, there's actually a decent amount of demand for these things, uh, as evidenced by how much revenue they're making. We'll get to that later. Um, but there is eventually an equilibrium point there where so many layer twos that have been able to scale out to their maximum degree uh attract a lot of economic activity and that induces a lot of economic activity. So it's not like fees are going to be permanently down only. There will be upwards price pressure for block space demand for the layer twos, and it will hit some sort of equilibrium. But the beautiful thing about this, Ryan, is that when a layer two gets too saturated for particular use cases, we can just make more. We can just have another layer two. Uh, and so if we need a layer two with hyper cheap fees, there are different design constructions and different optionalities that layer twos have to make sure that fees can stay as basically as low as the layer two teams want. Uh and so

The long-term equilibrium of these things is a little bit unknown, but with the amount of ammo that we have in the tool belt to keep pushing down fees on the layer two is pretty significant. And so I would be very optimistic to seeing less than five stand transaction fees in sometimes in 2023 and then also scaling that out to more and more users being able to access more and cheaper and cheaper fees.

All right, so what we're seeing right now is layer two transaction fees that are about 90 to 95% cheaper than um than layer one. And we're getting some EIP improvements that will massively reduce those transaction fees yet again, right? You you mentioned two that are coming. And once these two are implemented, we'll probably see like sub-five cent transaction fees, maybe sub-1 cent transaction fees. But we also anticipate at the same time because when you create more block space, there's more cheap, cheap block space, there's more block space demand. So demand will eventually like catch up, and then fees will increase from there, you know, above above one cent in into the future. So I guess right now we've got fees hovering around where they are for the next few months in six months to 18 months, a massive fee reduction that will carry us over for a very long time until block space demand then then catches up with it. So when we talk about the fee differences, is there a difference between I know there's two classes of roll up, is there a difference between optimistic roll ups and ZK rollups with respect to fees?

Yeah, so for the user fees, ZK rollups are always going to be cheaper just by definition of what they are. Those are the faster, cheaper transactions. They're just also harder to build and harder to develop on than optimistic rollups. But the cool thing about this, both roll-ups, both roll-up design constructions, they amortize fees across users. And so actually the more users that are using roll-ups, the more the fees are shared. Because the fees are ultimately the cost of making a layer one transaction. And so when a layer one transaction from Optimism or Arbitrum is shared amongst 10 people versus 10,000 people, the more these rollups are used, the cheaper the fees get. So this is actually a really like awesome mechanism and just really good mechanism design where the more and more these things are used, the cheaper and cheaper the fees get because the cost is split against amongst a wider and wider set of participants. This is more true for ZK rollups than it is for optimistic rollups because ZK rollups have very high fixed costs, as in the transaction for ZK rollups to put a transaction on the layer one is about the same size of data every single time. Whereas as economic activity on these layer twos for optimistic rollups, like Arbitrum and Optimism, as they grow, the actual cost of that layer one transaction also does increase, but it increases linearly as usage can grow exponentially. So layer two usage of optimistic rollups can grow exponentially, while the l while the uh L1 transaction cost grows linearly. And so they still can uh this is a uh like directionally right, uh they can still amortize higher and higher transaction quantities across more and more users. And so this is a beautiful thing about layer two is that you just can't do at the layer one level, which is as adoption grows, the chi the fees actually go down rather than up.

So we've got layer two fees going down over time, at least until such a time that massive block space demand catches up with it. But what about layer one fees? What about Ethereum mainnet layer fees? Are we ever going down there?

Uh probably not, I would say, just because like the opportunity to spin up a new blockchain and then have that be the aggregator of fees down to the layer one, there's so much potential of DeFi of crypto left to make newer and newer use cases for what we can do in the crypto world that is going to be unlocked with layer twos, that it's ultimately going to aggregate a bunch of new economic activity and then put that down onto the layer one. And that is going to increase block space on the layer one. And so even if like users stopped, or even if like layer twos stopped using L1 block space, like even users would start going back to the layer one. But that's just never going to happen. There's always going to be some sort of just like basal level of demand for Ethereum layer one block space. And that that basal level of demand is only going to increase as more and more layer twos come online and as they they themselves create higher and higher block space demand on the layer one.

We've talked about this concept, David, of um you know, even Bitcoin in the early days, economic density, right? So what we've done is we've compressed far more value, far more economic activity uh into onto each dollar spent on Ethereum mainnet uh fees. Because now it's not just me buying something on Uniswap as an individual uh user, you know, that block space fee is the sum of you know maybe thousands of transactions on a set of layer twos that then collapse down to a spend on Ethereum. And that's been the trajectory of all successful fees, like more and more economic density of the transactions. You remember in the early days when Eric Voorhees was was telling us about his Satoshi Dice, uh, where he's actually using Bitcoin block space for like, what was it? Almost like an early.

Gambling, a fun gambling app that used on-chain like gambling metrics.

And it used in an incredibly like uh a lot of Bitcoin block space in an incredibly inefficient way. And it very soon it became impractical. This is like the early days of Bitcoin, 2012, 2013 time range. It became impractical to actually run Satoshi dice on Bitcoin. Why? Because other more valuable transactions crowded Satoshi dice out. And that's exactly what's going to happen with Ethereum mainnet. This is why I agree with you, David. I don't think mainnet transaction fees, like they'll ebb and flow a little bit, but they're never really gonna go down in the future. And so that's actually a good thing, though, overall, because we want high transaction fees on Ethereum mainnet in order to prop up the defense budget, the security budget for the Ethereum network and all of the United States, the United chains of Ethereum. So that's actually a very important feature and function. Now, where people get stuck though is uh they still think that the Ethereum mainnet is going to be home for users in the future, like individuals paying $30, $40, $100 transaction fees on Ethereum mainnet. What would you say about that?

Right. So if you're a user trying to use the Ethereum layer one, think about who you are competing against. Like right now, you're competing against other Ethereum whales who have like a ton of Ether and are insensitive to gas prices. And you're also competing against other blockchains, right? And that is the long term competition for Ethereum Layer One block space. Do you think that you have enough ammo to compete with other blockchains to consume Ethereum block space? Like the answer is no.

Yeah, I'm gonna say no on that. You're competing with an entire like state level economy. It's like competing with the the state of California to get your transaction through.

Right, and it doesn't matter how big of a whale you are, eventually you will get pushed out to the layer twos. Like the the tide will always go up and up and up just because like you because layer twos are just instantly cash flow positive because any block space demand for the layer twos turns into block space demand for the layer one. So all layer twos have to do is have any ounce of utility around them and they start being pretty competitive with consuming layer one block space. And so like it doesn't matter how big your bags are, like you're going on to layer twos eventually, no matter what, because that tide will catch up to you.

Yeah, so just d don't go there kicking and screaming. I mean, I think but some of the message we we're we're we're talking about in this in this episode is um start to look, start to seriously investigate building a home in one of these layer twos. Like go drive your car through the neighborhood, see if it has nice schools, nice houses, see see if it's kind of a vibe that you like, because uh sooner or later, and I think it should probably be sooner, you should think about migrating all of your activity to these layer twos. And we've got a lot of contenders to pick from, right? You know, optimisms, you can't and the nice thing is it's not not like just like a neighborhood, because you can have you can live in multiple locations at once. But the location you're probably not going to want to live in, you're going to be priced out of is the Manhattan, which is essentially Ethereum mainnet. It's uh too crowded, too busy, too expensive. Block space price is going up. So, some of the message of this episode is start to investigate some of these layer twos because you're going to have to migrate. So, may as well start start right now.

One thing that has really been a big advantage for the early Ethereum users is having a big footprint on the Ethereum layer one. Like if you use Uniswap in 2019, you got the airdrop. If you use DYDX, you got the airdrop. And so like now is the time to start growing your footprint on layer twos. Like just grow, cast your net, do the things because crypto pays you to learn it. You don't know how or when or how it's coming. But the sooner you establish your settlement on a layer two and start just going and doing normal layer two things, living your layer two life, the larger your footprint will be and the more surface area you'll have for airdrops or just other generalized opportunities.

Totally. And given what we just said, uh right now, some of these layer twos, like even a dollar on uh optimism or arbitrary, that's a little expensive for transactions. But but realize it's gonna get significantly cheaper in the future. Like we're talking six months, twelve months, eighteen months from now, once some of these uh Ethereum improvement proposals go through. So you have that to look forward to as well. But let's talk a little bit about the uh the layer two paradigm that we're entering and the impact to ether the asset. Of course, um we've we talk a lot about ether the asset um as an ultrasound money, for instance, as a reserve currency for this thing we're calling the Ethereum economy. But how do layer twos directly impact the value of ether the asset? Again, some have called it parasitic. I think we've made the case for why it's not, but but walk us through why it is not parasitic for ether the asset?

Right, and let's begin by recapping the three pillars of ETH value capture, the three points on the on the triple point asset. You have ether consumption via ETH burning via L1 block uh block fees. Uh then you also have the stake rate as in how much yield in in ETH terms, how much APY you can get from staking your ether. And then how much ether it has uh the reservation demand for ether, like how much collateral can it be on these layer twos? How how much money can it be on these layer twos? So these are the three things that really define ether as an asset. Locked in DeFi or slash locked in layer twos, uh the burn rate, how much ether is getting burned, and then the stake rate. And so the layer two paradigm impacts all of these things, and it really always boils down towards how layer twos are solar panels for economic activity. Uh and so let's start with the the ether burn rate.

When when layer twos like have a bunch of economic activity on them, maybe it's like gaming on immutable or DeFi on Optimism or Arbitrum or any other possible design considerations for any other layer twos, of which there are many of, all of these uh scale out the possible economic use cases of Ethereum from where it is today at like a five to fifty dollar transaction fee average, and it also goes up from there, but then it lowers that threshold down to five cents or below. So the sheer amount of economic activity that can come to ultimately be settled on Ethereum always turns into block space demand for the layer twos. And so all these layer twos, which are collecting all of this economic energy from the world around it, come and start burning ether. And they start burning ether a lot. Ryan, you earlier showed the uh the ether burn rate on the ultrasound.money website. I'm gonna show that again.

And

Yeah, so right now we are Arbitrum is is doing 20 or 33 ether per day and optimism is slowly is somewhere just below that as well. Like we are just in the early days of uh layer twos and burning ether. Uh and this is before Arbitrum even has a token and before Optimism token even goes live and before liquidity mining incentives. And so we'll get to all of those things because those are all relevant.

Just just camp on b burning for a minute. So for people who uh maybe maybe they're not sh quite sure what the linkage between burning ether is and actually uh the value of of ether as an asset. So when you say burning, what do you mean? Can you talk about ETH as a deflationary asset and what this what this uh who ultimately gets the uh the benefit from this burnt ether?

Certainly, yeah. So EIP 1559, it's the famous EIP that changed how block transactions work on Ethereum. About 70% of all blockchain L1 fees on Ethereum gets burnt. And the reason why it gets burnt is it's multifaceted, but it's basically when we have when Ethereum generates transaction fees, high transaction fees, we don't actually have to give it to the miners or we don't actually have to give it to the stakers because of how secure Ethereum is, anyways, especially under a proof of stake paradigm. And so we're taking in all of this extra revenue. And previously we were just spitting it out to miners and they were just selling it on the open market. Uh and with EIP 1559, it takes in about 70% of all transaction revenue, and that number varies, but 70 seems to be the equilibrium, and it burns it. And so it's the this is the excess of the Ethereum economy. This is the people are spending more than what is needed for Ethereum to secure itself. And so it takes that excess revenue and it just burns it because we have it's extra. We don't actually need to send it back into the economy. And because sending it back into the economy implies some point at which it goes back into the economy, we don't really want to bestow some privileged position in the Ethereum economy as in either the stakers or the miners or anyone, it needs to be credibly neutral. And so what's the most credibly neutral thing to do? We just burn it. And what that does is it's basically a buyback on ETH. So if you own ETH, you are basically being paid this revenue because just by owning the thing. And so instead of injecting it into one specific part of the Ethereum economy, saying, like, hey, the miners should get this, or the validator should get this, or Vitalik should get this. Instead, the Ethereum economy says, well, if we burn it, we can give it to everyone.

It's like basic income for everybody. Everybody if you hold ETH.

Right.

Your dividend.

Exactly.

Freedom dividend. Except the best part is you don't actually like it doesn't actually go into your wallet. It doesn't actually have to make a transaction on Ethereum. Your Ether is just more valuable implicitly because the other Ether has been burnt.

It's out there.

So this is why we call Ether like ultrasound money, because as we go into the merge, you can see uh like uh if you hit that simulator merge button, which I think maybe you already did, Ryan. Yeah,

uh yeah, negative four percent per year, as in ether is deflating at four percent per year. Do you know, Ryan, how much gold is inflating?

I d I I I know like base numbers. I don't know the exact numbers, but I'm gonna say like it depends, right? Because the more valuable the gold, the more uh inducement there is to inject more more supply into mine more. But I'm gonna say like one to to three percent per year. Is that about right?

Yeah, it does it does vary over time, but the the 1.5% is the average metric. So gold, the the the non-sovereign solar value asset, inflationary at 1.5%. Ether in with today's numbers in the merge is negative 4%. Uh Bitcoin inflates at 0% over the long term. Uh Ether, currently with this today standards, inflating at negative 4%. So

When you say when you say Bitcoin is zero percent over the long term, like I kind of understand that, but that's also like a little bit of Bitcoiner speaking. Like practically what we're getting in the market is about a 1.5 issuance uh rate for for Bitcoin, something to that effect until the next halfing. And then that that gets cut in half again. Um but yeah, so this um this 4% per year, that's based on the the seven-day burn rate. And you tweak the numbers because any seven-day period of time, there'll be a different burn rate. So if you pull that back to 30 days, it's uh it's a little less, it's a negative 1.7% burn rate. But like we're talking about some pretty big numbers. If you we it haven't even been in a year, it's been about like nine months, I guess, August since EIP, August 2021, since EIP 1559 went uh live. We roughly burnt 2% of all ETH supply. It's about 2%. Okay, 2.2 million in ETH supply has been burnt in this in this nine-month period of time. So uh we're talking about some pretty massive numbers. And what you're saying here is the link between uh layer two and this burn rate is layer twos are going to burn by far the most amount of block space because they are going to we expect them to be the the largest consumers of block space. They don't even show on the charts today, guys. Right. That's how early they're they're not in the top 10, they're not in the top 15. You have to look to the top 20 to start to see arbitrum, but uh that's all going to change, is what we're predicting, and they're going to be some of the top burners, and all of that burn goes back as a dividend to anyone who holds ETH. You don't have to stake, you don't have to validate, you just have to own some ETH in the Ethereum economy, and you get the proceeds of all of the layer twos. So, what you're saying is just in that first uh pillar.

Layer twos are good for ETH, the asset.

yes, right. Uh Ryan, do you remember when I say uh DeFi summer, what gas fee numbers come to mind?

Um

What was the sustained gas fee matching numbers?

like I just feel like I saw a lot in the three hundreds. I felt it was a lot in the three hundreds. Maybe that was just whenever I looked it was at least there. What uh what number did you have in mind?

Yeah, two to three hundred. It was at over two to three hundred for at least a couple months in a row. And that was like the on-chain bull market for Ethereum. The average gas uh gas fee over the last seven days, right now, is 45. And it's been that way for the last two months or so. Uh and this is because like DeFi summer, like a lot of on-chain activity, is a huge bull market, huge mania. But like it sustained two to three hundred Gui for months. Uh and so like that would put us at like a negative seven, eight, nine percent deflationary rate. And so when I when I use the metaphor that layer twos are solar panels, then they are collecting energy to burn ether. That that is going into burning ether at the layer one. These are solar panels for economic energy, and that ultimately comes to the just the throwing ether into the furnace over time.

And why is that a good thing? We'll just make one link and then we'll go to the to the next um to to the next pillar that you're talking about. The reason that's a good thing is because burning ether is a public good. Why? Because the more valuable ether is, the greater security the Ethereum network has, and the greater security for all of the united chains of Ethereum, all of the other layer twos. So an L2 burning ether on Ethereum makes Ether more valuable and increases the security budget for the entire Ethereum network. So it's like California, Texas, Florida, they're all paying their taxes to the federal government, and the federal government can then spend more on national security. And of course, these states uh can secede at any time, of course, that you know, their chains, it's a completely opt in network. So it's not as if Ethereum is like forcing these chains to become uh roll ups and become layer twos. They are doing that of their own accord, but that's how you get a self reinforcing economy.

And the and the beauty of this, Ryan, is that when there is a lot of uh Ether burn, that again burning the excess revenue for the Ethereum protocol, it also means that Ether Ethereum doesn't have to issue as much new Ether because if Ether increases in price, that means we are getting more bang for our buck when we issue and mint one new Ether to pay for security. If that ether is more highly priced, we get we get more value per unit. And so as there as the Ethereum revenue uh protocol collects all the revenue from burning ether, it means we don't have to issue as much. And so this turns into a positive feedback loop of value accrual because we are burning so much.

the price is going up, the value of it is going up, and so therefore issuing eth more ether we it requires less issuance. Uh and so which i furthers how scarce it is. So it's this great positive feedback m uh loop of security.

And then the higher security you get, the more layer twos you attract because more people want to be associated with um with Ethereum because they want that security to underlie their chain as well. Um the ETH stake rate, does that actually, you know, have any impact in layer twos? That was the second pillar you said of the three pillars of ether uh, you know, value proposition. Does the stake rate change at all?

The ETH stake rate is uh a complicated beast, especially in a layer two world. Uh right now, like I said earlier, 70% of Ether block space uh transaction fees go into burning ether, implying that 30% goes to the ETH stake rate. That probably changes over time in a layer two environment, and it's one of those things we're just going to need more data for. What we do know is that if you if you believe that layer that ether will go up in price because more and more ether gets burnt and it's also becoming more and more money in all these layer twos, that the dollar denominated APY is also going up bigly. Uh the ether denominated API is a harder uh thing to reason about. Uh there's a lot of uh debate out there as to where MEV gets captured. Uh is MEV, and that means minor extractable value, as in if you are an ether validator, when you are the it's your turn to propose a block, you get to order transactions as you see fit. And there is a specific ordering of transactions that you can make that puts more money in your pocket. Uh, and so uh validators compete on how much MEV that they can extract from the blocks. Uh in a world where a lot of economic activity is going to layer twos, and layer twos just bundle up a lot of transactions and put them down on the layer ones. Uh, there it that implies that a lot of mev ultimately goes on to the layer twos. And this is actually a conversation that we'll be having later in the show as to what layer twos do with all this MEV. Some ME natural uh naturally, some MEV will work its way down to the layer one. How much that happens is to be determined. There's definitely going to be.

Arbitrage opportunities as like Optimism settles all of its Uniswap trades onto the layer one, and then there's an arbitrage opportunity there with Optimism's version of Uniswap versus with the layer one version of Uniswap versus Arbitrum's layer of Uniswap. That is all arbitrage opportunity and that creates MEV at the base layer. The proportion of this is to be determined. There's a lot of data that we need to really look at. But I think the main thing to take away is that perhaps in ether terms, ether denominated terms, staking APY is about the same, but in dollar terms, because of how bullish layer twos are for ether the asset, in dollar terms goes up bigly.