From "World Computer" to "Settlement Layer Commodity"? Ethereum's L2 Strategy Bail-in Manual

Original Title: Ethereum Reimagined: Restoring Control and Value to ETH

Original author: Momir, IOSG Ventures

TL;DR

The enthusiasm for the Web3 vision that peaked in 2021 has faded, and Ethereum is facing severe challenges. Not only has the market's perception of Web3.0 shifted, but Ethereum is also experiencing fierce competition from emerging platforms like Solana for the remaining market share. Key issues such as Layer 2 fragmentation, erosion of value attribution, dilution of ecological control, and lack of leadership further weaken Ethereum's user experience and economic value, and with the increasing influence of Layer 2 networks, Ethereum's impact is being shaken. These factors ultimately led to one of the most severe price corrections in the history of ETH.

However, hope remains: by promoting L2 interoperability, prioritizing the improvement of ETH-centric infrastructure, and adopting decisive, performance-oriented leadership, Ethereum still has the opportunity to regain its glory. Ethereum's solid underlying architecture and vibrant developer ecosystem remain its lasting advantages, but to restore ETH's excellence, strategic actions must be taken swiftly.

The cognitive shift from the Web 3.0 utopia to a harsh reality forces the market to reassess Ethereum's core value proposition. The once-hopeful ideal of a "user-governed decentralized internet" has now been replaced by a more ironic narrative: the cryptocurrency space is either a store of value game for Bitcoin or has degenerated into a digital casino. This reversal of sentiment has been particularly significant for Ethereum: it prides itself on being the cornerstone of a new internet paradigm, yet it must confront an increasing number of doubts.

More seriously, Ethereum is no longer the sole spokesperson for the Web 3.0 vision. Whether one holds an optimistic or pessimistic view of the industry's future, it is evident that platforms like Solana are becoming the new center of crypto consumption activities. Against this backdrop, this article aims to analyze the most pressing strategic challenges currently facing Ethereum and propose practical solutions to help it regain an advantage in the constantly evolving landscape.

Core Challenge

Ethereum faces numerous challenges, but this analysis focuses on the four most pressing issues - L2 network fragmentation, declining value capture capability, dilution of ecological control, and lack of strategic leadership.

L2 Network Fragmentation and User Experience Disruption

The most significant crisis is the fragmentation of Layer 2 networks. The introduction of multiple competing execution layers has fragmented the user experience and on-chain liquidity, eroding the composability advantage that the Ethereum mainnet once prided itself on, an advantage that remains clearly visible in single-chain blockchains like Solana.

For users, they have to deal with inconsistencies among various protocols, standards, and cross-chain bridges, making the seamless interaction originally promised by Ethereum difficult to achieve. Developers bear the burden of maintaining multiple versions of protocols across multiple L2s, and startup teams face complex market entry strategies due to the need to allocate limited resources in a fragmented ecosystem. As a result, many consumer-facing applications choose to pivot to Solana, where users and entrepreneurs can focus their energy on entertainment and innovation without getting tangled in fragmented infrastructure.

Dilution of Ecological Control: An Increasingly Serious Threat

To make matters worse, Ethereum is outsourcing its scaling roadmap to L2, a decision that is eroding its grip on its ecosystem. General-purpose L2 rollups generate powerful network effects as they build their respective ecosystems, and gradually evolve into insurmountable moats. As time goes on, these execution layers have more and more say in relation to Ethereum's settlement layer, and the community may gradually ignore the importance of the mainnet settlement layer. Once assets begin to exist natively in the execution layer, Ethereum's potential for value capture and influence will be greatly diminished, and the settlement layer will eventually be reduced to a commoditized service.

Value Attribution Erosion: Structural Challenges

The rise of L2 has significantly impacted the value capture of ETH, as these platforms increasingly occupy MEV and transaction fee revenue, greatly reducing the value flowing back to the Ethereum mainnet. This shift redirects economic benefits from ETH holders to L2 token holders, weakening the intrinsic motivation to hold ETH as an investment asset. Although this trend poses an inevitable challenge for any Layer 1 token—be it modular Ethereum or monolithic integrated chains—Ethereum experiences this phenomenon earlier and more prominently due to its early practice of an L2 centralization route.

It is foreseeable that when application layer-led MEV capture becomes the norm, not only individual blockchains will face similar dilemmas, but even L2 itself will encounter a value capture crisis. Although this is not a dilemma unique to Ethereum, how to formulate precise strategies to address this structural challenge remains a core issue that urgently needs to be resolved.

Leadership Crisis: The Idealism Dilemma

Ethereum's response to these challenges has also exposed deep strategic leadership flaws. The long-term back-and-forth trade-off between efficiency goals and egalitarian values within the community has delayed critical progress. At the same time, the insistence on a commitment to "credible and neutral" governance, while intended to reduce the risk of regulatory and state crackdowns, has often become a shackle to strategic decision-making. In addition, ETH holders lack a mechanism to directly influence major strategic decisions, and their only way to express their dissatisfaction is often through the sale of tokens.

In hindsight, these issues, although easy to define, may to some extent stem from considerations of regulatory pressure and national-level risks, rather than a lack of insight into governance and leadership.

Strategic Response: Challenges and Solutions

L2 Network Fragmentation: Self-Correcting Mechanism

Two paths to resolve the L2 fragmentation crisis:

Firstly, rely on market mechanisms (natural selection) to achieve organic integration of the ecosystem, ultimately forming 2-3 general-purpose L2 dominant markets with absolute activity. Other projects may either exit the competition or transform into Rollup service providers targeting vertical scenarios.

Secondly, by establishing strong and binding interoperability standards, internal friction within the Rollup ecosystem can be alleviated, preventing a single execution layer from building a monopolistic moat.

Ethereum should seize the current window of influence that L2 still holds and promote the implementation of the second solution. It is essential to recognize that this dominance is continuously waning by the day; the slower the action, the weaker the strategic effectiveness. By building a unified L2 ecosystem, Ethereum is expected to regain the composability advantage of the mainnet era and compete directly with single chains like Solana at the user experience level.

However, relying solely on market-driven consolidation will cast a shadow over the future prospects of ETH. Once a power law distribution emerges around 2-3 dominant execution layers, Ethereum's influence over these execution layers may significantly weaken; in this scenario, each execution layer tends to prioritize the value attribution of its own tokens, thereby marginalizing ETH and weakening Ethereum's economic model. To avoid this situation, Ethereum must take decisive action to shape its own L2 ecosystem, ensuring that value and control are always tied to the mainnet and ETH.

Value Re-Capture Mechanism

Relying solely on the narrative of "productive assets" is not a sustainable long-term strategy for ETH (and all Layer 1 tokens). The time window for Layer 1 to dominate MEV capture will last at most five years, as the trend of value capture levels continuously migrating upstream to the application stack has become established. Meanwhile, Bitcoin has firmly occupied the narrative of "value storage," which means that if ETH attempts to compete with BTC in this area, it may be perceived by the market as the "poor man's Bitcoin," similar to the historical positioning of silver relative to gold. Even if ETH is able to demonstrate a significant advantage in value storage in the future, this transformation may take at least a decade, and Ethereum cannot afford to wait such a long period. Therefore, during this time, Ethereum must carve out a unique narrative path to maintain its market relevance.

Positioning ETH as the "native currency of the internet" and the highest quality on-chain collateral is the most promising direction for the next decade. Although stablecoins dominate as payment mediums in on-chain finance, they still rely on off-chain ledgers; the true role of an internet-native and unstoppable currency has yet to be materially occupied, and ETH has this first-mover advantage. However, to achieve this goal, Ethereum must regain control of the universal execution layer in the ecosystem and prioritize the promotion of ETH adoption rather than allowing the proliferation of Wrapped ETH standards.

Regaining Control of the Ecosystem

Reestablishing ecological ownership can be achieved through two key pathways: first, by enhancing the performance of Ethereum L1 to reach a level comparable to centralized chains, ensuring that consumer applications and decentralized finance experiences are without delay; second, by launching Ethereum's native Rollup, focusing all development and adoption efforts on this. By centering ecological activities around the infrastructure controlled by ETH, Ethereum can reinforce ETH's core position in the ecosystem. This requires Ethereum to shift from the outdated "ETH compatible" paradigm to an "ETH dominant" ecological model, prioritizing direct control over core resources and maximizing ETH's value capture.

However, whether it's regaining ecological control or strengthening ETH adoption rates, these are tricky decisions that could alienate key contributors such as Rollup and liquid staking providers. Ethereum must carefully weigh the balance between reinforcing control demands and the risk of community fragmentation to ensure that ETH can successfully establish its new narrative as the cornerstone of the ecosystem.

Leadership Innovation

Ultimately, the leadership of Ethereum must innovate to address governance and strategic challenges. Ethereum leaders need a performance-oriented mindset, a stronger sense of urgency, and a pragmatic approach to drive ecological development. This shift requires abandoning the previous excessive adherence to "trustworthy neutrality," especially when it comes to making decisive decisions regarding product roadmaps and the positioning of ETH assets.

At the same time, the market has expressed dissatisfaction with Ethereum's practice of outsourcing critical infrastructure—from Rollups to staking—to decentralized entities. To turn this situation around, Ethereum must bid farewell to the old model of "aligned with ETH" and shift towards a new model of "led by ETH," ensuring that core infrastructure is unified under a single token system ($ETH). This move will further solidify ETH's core position and restore market confidence in Ethereum's strategic direction.

Marketing Challenges and Narrative Potential

Despite facing numerous challenges, Ethereum still possesses deep advantages that support its position in the cryptocurrency space—these advantages are often downplayed by its leadership, leading to negative criticisms overshadowing its core narrative. Systematically sorting through these advantages can help establish an objective understanding framework for Ethereum's potential.

Proven Infrastructure

Ethereum ranks alongside Bitcoin, providing unparalleled decentralized security that meets the stringent requirements of sovereign entities and large financial institutions. The security guarantees provided by the consensus mechanism far exceed those of other smart contract platforms, ensuring true censorship resistance—an essential feature for infrastructure that carries hundreds of billions of dollars in value. The Ethereum DeFi ecosystem has cumulatively secured approximately $76.32 trillion in value (TVL×days), and significant security incidents are rare, with the time-tested security moat continuously deepening.

Currently, the scale of stablecoins hosted on Ethereum has exceeded $120 billion, accumulated mainly during an era where the regulatory framework is not yet clear and institutional adoption has not yet formed. As the regulatory environment gradually becomes clearer and institutional demand drives further growth of stablecoins, it is expected that within the next decade, the scale of stablecoins hosted on Ethereum will surpass $1 trillion. This growth comes not only from new issuance demand but also from the market's established trust in its security and composability, which may solidify its position as a cornerstone platform in the global financial system.

Forward-looking Design

The architecture of Ethereum is notably forward-looking. Compared to Bitcoin, it offers a more comprehensive transitional solution against quantum attacks, driven by a continuously evolving technological culture that fosters innovation. Unlike the potential security budget constraints that $BTC may face in the future, Ethereum's flexible monetary policy allows it to maintain strong security incentives while adapting to market conditions, ensuring long-term resilience.

Unparalleled Developer Ecosystem

Ethereum has the largest and most diverse developer community in the blockchain field, with nearly a decade of accumulated knowledge and best practices. This intellectual and social capital has built another layer of moat for the EVM ecosystem, allowing it to maintain a leading edge in innovation speed and application scale.

Modular Path: The Only Solution for Scalable Decentralized Systems

The modular design of Ethereum has made significant progress in balancing decentralization, scalability, and security. Over time, it has become increasingly clear that a monolithic chain, in order to achieve global financial-level scale, must sacrifice decentralization; while Ethereum's modular strategy is the only viable solution for achieving sustainable scalability while maintaining minimal trust and decentralization. The correctness of this strategic choice will become more pronounced over time.

The Most Customizable Tech Stack

The L2 ecosystem of Ethereum offers unparalleled customizability, making it the preferred platform for vertical application scenarios and institutional adoption. Institutions can build dedicated L2s based on Ethereum L1, utilizing technologies such as fully homomorphic encryption (FHE) for privacy protection; companies like Robinhood can replicate the traditional financial order flow payment mechanism on their own L2s through a "priority fee" model. These L2s are anchored to Ethereum L1— the world’s most secure public ledger— forming a unique security redundancy: even if a certain L2 fails, users can still revert to L1 for trustless settlement, and this "ultimate safety net" is the unique value proposition of the Ethereum ecosystem.

Market Signal: ETH enters historically oversold zone

The recent price trend of ETH has made it an unattractive target in the eyes of investors, and ETH holders have expressed their lack of confidence in recent developments through their selling behavior. This sharp decline has only occurred six times in ETH's ten-year history, with five of those instances happening in the early stages. For Ethereum, which has entered its tenth year of development, encountering such a magnitude of value reassessment at its mature stage undoubtedly sends a significant warning signal to the entire ecosystem. Historical data shows that strong rebounds occurred within six months following the first five similar pullback events, which injects a glimmer of hope into the current predicament.

However, whether ETH can replicate historical patterns or continue its current steep downward trajectory will directly depend on the strategic signals released by the Ethereum leadership in the short term, as well as strategic execution over the next twelve months. Despite facing challenges, the current situation is not irreparable; if feasible strategies can be formulated and implemented, a strong recovery is still possible.

To reshape its industry leadership and restore market confidence in ETH, Ethereum must immediately address the following core challenges: First, it is necessary to enforce sound L2 interoperability standards to alleviate fragmentation and retain the seamless composability that the mainnet once defined; second, it must shift from the old model of "aligned with ETH" to an ecosystem model "led by ETH", prioritizing L1 scaling and Ethereum-native Rollups to re-establish control and maximize ETH's value capture; finally, leadership must evolve towards a performance-driven decision-making approach, abandoning "trustworthy neutrality" and unifying key infrastructure under the $ETH token system.

If decisive action cannot be taken, Ethereum will face the risk of being eroded by competitors like Solana and becoming a commoditized settlement layer.

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