Author: Joel John
Compiled by: Luffy, Foresight News
The killer application of cryptocurrencies has emerged, and that is stablecoins. In 2023, Visa's transaction volume approached $15 trillion; while the total transaction volume of stablecoins reached $20.8 trillion. Since 2019, the total amount of stablecoin transfers between wallets has reached $221 trillion.
Over the past few years, capital equivalent to the global GDP has been circulating on the blockchain. Over time, this capital will gradually accumulate in different networks. Users switch between different protocols to obtain better financial opportunities or lower transfer costs; in the era of chain abstraction, users may not even know that they are using cross-chain bridges.
Cross-chain bridges can be seen as routers for capital. When you visit any website on the Internet, there is a complex network behind it. The physical router in your home is crucial to the network, as it determines how to route data packets to help you get the data you need in the shortest time.
Today, cross-chain bridges play the same role in on-chain capital. When users want to move from one chain to another, the cross-chain bridge decides how to route the funds to maximize the value or transaction speed of the user's capital.
Since 2022, the transaction volume processed through cross-chain bridges has exceeded hundreds of billions of dollars. This is far less than the amount of capital being transferred on-chain by stablecoins. But compared to many other protocols, cross-chain bridges earn more profit per user and per locked dollar.
Today's article will explore the business model behind cross-chain bridges and the capital generated through transactions on them.
The Business Model of Cross-Chain Bridges
Since mid-2020, blockchain cross-chain bridges have generated nearly $104 million in cumulative fees. This data has a certain seasonality, as users flock to cross-chain bridges to use new applications or seek economic opportunities. If there are no attractive yield opportunities, Memecoins, or financial primitives, the usage of cross-chain bridges will drop significantly, as users will stick to the chains and protocols they use most often.
A sad (but interesting) way to measure cross-chain revenue is to compare it to Memecoin platforms like Pump.fun. When the fee revenue of the Memecoin platform was $70 million, the fee revenue of the cross-chain bridge was $13.8 million.
Although transaction volume has increased, we see fees remain relatively flat, as there is an ongoing price war between blockchains. To understand how they achieve this efficiency, we need to understand how most cross-chain bridges work. One mental model for understanding cross-chain bridges is through the Hawala network from a century ago (Note: The Hawala network is an ancient non-cash cross-border payment system composed of a network of individuals who recognize each other and are distributed in different countries and regions).
Although today, people's understanding of Hawala is largely around its association with money laundering, a century ago it was an effective way to transfer funds. For example, if you wanted to transfer $1,000 from Dubai to Bangalore in the 1940s, there were many options.
You could go to the bank, but it might take a few days and require a lot of paperwork. Or you could go to a seller in the Gold Souk, who would take your $1,000 and instruct an Indian merchant to pay an equivalent amount to your designated person in Bangalore. The currency changed hands in India and Dubai, but did not cross the border.
How does this work? Hawala is a trust-based system, and it works because the sellers in the Gold Souk and the merchants in India often have ongoing trade relationships. They don't directly transfer capital, but settle the balance later with commodities like gold. Since these transactions rely on the mutual trust between the participating individuals, there needs to be a high degree of confidence in the honesty and cooperation of both parties.
What does this have to do with cross-chain? Many cross-chains adopt the same model. To seek yield, you may want to move capital from Ethereum to Solana. The job of cross-chain bridges like LayerZero is to help convey messages about users, allowing users to deposit tokens on one chain and borrow tokens on another.
Imagine these two traders are not locking assets or providing gold bars, but giving you a code that can be redeemed anywhere. This code is a form of sending messages, which on LayerZero are called endpoints. They are smart contracts that exist on different blockchains. The smart contract on Solana may not be able to understand the transaction on Ethereum, so it needs an oracle. LayerZero uses Google Cloud as the validator for cross-chain transactions, so even on the frontier of Web3, we rely on Web2 giants to help us build a better economic system.
Imagine the traders involved don't trust their ability to interpret the code, after all, not everyone can get Google Cloud to validate transactions, so what do they do? Another approach is to lock and mint assets.
In this model, if you use Wormhole, you will lock assets in an Ethereum smart contract and then receive wrapped assets on Solana. This is similar to depositing US dollars in the UAE and having a Hawala provider provide you with gold bars in India. You can take the gold, speculate with it, and then return it to withdraw your original capital in Dubai.
The image below shows the wrapped Bitcoin assets today. Most of them were minted during the DeFi summer to generate yield on Bitcoin on Ethereum.
The key points of the commercialization of cross-chain bridges are:
TVL: When users come to deposit funds, these funds can be used to generate yield. Today, most cross-chain bridges do not absorb idle capital and lend it out, but rather charge a small transaction fee when users move capital from one chain to another.
Relay fees: These are fees charged by third parties (such as Google Cloud in LayerZero) that charge a small fee per transaction to validate transactions across multiple chains.
Liquidity provider fees: Paid to those who deposit funds into the cross-chain bridge smart contract. Imagine you are running a Hawala network, and now someone is moving $100 million from one chain to another. You personally may not have that much capital. Liquidity providers are the individuals who pool these funds to help facilitate the transaction. In return, each liquidity provider gets a small cut of the fees generated.
Minting costs: Cross-chain bridges can charge a small fee when minting assets. For example, WBTC charges a 10 basis point fee per Bitcoin.
The expenses of cross-chain bridges go towards maintaining relayers and paying liquidity providers; while the revenue is the transaction fees and the value they create for themselves by minting assets for the transacting parties.
The Economic Value of Cross-Chain Bridges
The data below is a bit messy, as not all fees flow to the protocol. Sometimes, fees depend on the protocol and the assets involved. If the cross-chain bridge is primarily used for low-liquidity long-tail assets, it may also result in users bearing slippage. So the following does not necessarily reflect which cross-chain bridges are better than others in terms of unit economics. What we're interested in is seeing how much value is generated across the entire supply chain during cross-chain events.
First, we look at 90-day transaction volume and the fees generated across protocols. The data looks at metrics as of August 2024, so these numbers are for the subsequent 90 days. We assume Across has higher transaction volume because it has lower fees.
This roughly indicates how much capital flowed through cross-chain bridges in a particular quarter, and the types of fees they generated in the same period. We can use this data to calculate the fees generated per dollar that flows through these cross-chain transfers. For readability, I'll calculate the fees generated per $10,000 transferred through these cross-chains.
Before we begin, I want to clarify that this does not mean that the fees charged by Hop are ten times higher than Axelar. Rather, on a cross-chain bridge like Hop, a $10,000 transfer can create $29.2 in value across the entire value chain (for LPs, relayers, etc.). These metrics differ because their transfer nature and types are different.
The most interesting part for us is to compare it with the value captured by the protocol and the amount of cross-chain capital.
To benchmark, we looked at the transfer costs on Ethereum. As of the time of writing, the transfer cost on Ethereum is around $0.0009179 with low gas fees, and on Solana it is around $0.0000193. Comparing a cross-chain bridge to L1 is a bit like comparing a router to a computer. The cost of storing files on a computer will be exponentially lower. But what we're trying to solve here is whether cross-chain bridges capture more value from an investment perspective than L1.
From this perspective, and referring to the above metrics, one way to compare the two is to look at the dollar fees charged per transaction by each cross-chain bridge and compare them to Ethereum and Solana.
The reason why several cross-chain bridges capture fees lower than Ethereum is due to the Gas costs incurred when making cross-chain transactions from Ethereum.
Someone might say that the Hop protocol captures 120 times more value than Solana. But that misses the point, because the fee models of the two networks are completely different. What we're interested in is the difference between value capture and valuation.
Of the top 7 cross-chain protocols, 5 have fees cheaper than Ethereum L1. Axelar is the cheapest, with an average fee over the past 90 days of only 32% of Ethereum. Hop Protocol and Synapse are more expensive than Ethereum. Compared to Solana, we can see that the L1 settlement fees on high-throughput chains are orders of magnitude cheaper than today's cross-chain protocols.
One way to further strengthen this data is to compare the cost of transacting on L2 within the EVM ecosystem. Generally, Solana's fees are 2% of Ethereum's. For comparison, we will use Arbitrum and Base. Since L2s are designed for low fees, we will use a different metric to measure economic value - the average daily fee per active user.
Over the 90 days we collected data for this article, Arbitrum had an average of 581,000 users per day, generating $82,000 in fees per day. Similarly, Base had 564,000 users and generated $120,000 in fees per day.
In comparison, cross-chain users are fewer and fees are lower. The highest is Across, with 4,400 users generating $12,000 in fees. From this, we estimate that Across generates $2.4 in fees per user per day. This metric can then be compared to the fees generated per active user on Arbitrum or Base to measure the economic value per user.
Today, the average user on a cross-chain bridge is more valuable than the average user on an L2. The average user of Connext creates 90 times the value of an Arbitrum user.
Cross-chain bridges, like monetary routers, may be one of the few product categories in crypto that can generate meaningful economic value.
As long as transaction fees remain high, we may not see users migrate to L1s like Ethereum or Bitcoin. Users may directly join L2s like Base, or we may see users switching only between low-cost networks.
Another way to measure the economic value of cross-chain protocols is to compare them to decentralized exchanges. Think about it, these two primitives have similar functionality. They allow tokens to be transferred from one form to another. Exchanges allow the transfer of tokens between assets, while cross-chain bridges allow the transfer of tokens between blockchains.
The data above is only for decentralized exchanges on Ethereum.
Here I avoid comparing fees or revenue. Instead, I'm interested in capital turnover rate. It can be defined as the number of times capital flows between the smart contracts owned by the cross-chain bridge or decentralized exchange. To calculate it, I divide the daily transfer volume of the cross-chain bridge and decentralized exchange by their TVL.
As expected, the capital turnover rate is much higher for decentralized exchanges, as users trade assets back and forth multiple times in a day.
However, interestingly, when you exclude large L2 native bridges (like Arbitrum or Optimism's native bridges), the capital turnover rate is not too far off from that of decentralized exchanges.
Perhaps, in the future, we will see cross-chain bridges that limit capital allocations and instead focus on maximizing returns by increasing capital turnover rate. That is, if a cross-chain bridge can transfer capital multiple times in a day, it will be able to generate higher returns.
Are Cross-Chain Bridges Routers?
Source: Wall Street Journal
If you think venture capital firms rushing into the "infrastructure" space is a new phenomenon, let's take a trip down memory lane. Back in the 2000s, when I was just a little boy, many in Silicon Valley were raving about Cisco. The logic then was that if internet traffic increased through the pipes, routers would capture a significant portion of the value. Much like NVIDIA today, Cisco was a high-priced stock back then because they were building the physical infrastructure that supported the internet.
Cisco's stock peaked at $80 on March 24, 2000. As of the time of writing, it trades at $52, never having recovered to its heyday. Writing this article in the midst of the Memecoin frenzy made me ponder how much value cross-chain protocols can capture. They have network effects, but it may be a winner-take-all market. This market is increasingly trending towards intent and solutions, with centralized market makers executing orders in the backend.
At the end of the day, most users don't care about the decentralization of the cross-chain bridge they use, they care about cost and speed.
Cross-chain bridge development has matured to the point where we're seeing multiple approaches to solving the age-old problem of cross-chain asset transfer. The main driver of change is chain abstraction: a mechanism for cross-chain asset transfer where the user is completely unaware that they've transferred assets.
Another factor driving volume growth is product innovation in distribution or positioning. Last night, while exploring Memecoins, I noticed that IntentX is using intent to package Binance's perpetual contract market into a decentralized exchange product. We're also seeing chain-specific cross-chain bridges continuously evolve to strengthen the competitiveness of their product.
Whichever approach is taken, it's clear that, like decentralized exchanges, cross-chain bridges are hubs through which massive amounts of monetary value flow. As a primitive technology, they will continue to exist and evolve. We believe that specialized cross-chain bridges (like IntentX) or user-specific cross-chain bridges (like those enabled by chain abstraction) will be the main drivers of growth in this industry.
Shlok added a nuance in discussing this article, which is that past routers never captured economic value based on the data they transmitted. You could download TBs or GBs, and Cisco would make the same money. In contrast, cross-chain bridges make money based on the number of transactions. So their fate may not be the same.
For now, it can be said with certainty that the situation we're seeing with cross-chain bridges is analogous to the physical infrastructure of routing data on the internet.
