Ethereum's Fragmentation Challenges Innovation, New Funding Models Emerge

Ethereum has evolved significantly over the past four years, transitioning from a network capable of handling just 15 transactions per second to a robust system processing thousands of transactions, with costs decreasing from $50 per swap to mere cents. This transformation has been largely driven by the implementation of Layer 2 (L2) solutions and rollups, which have scaled Ethereum without compromising its decentralized nature. However, this success has introduced a new challenge: fragmentation.

Today, Ethereum consists of over 50 L2 networks, each operating as an independent ecosystem. This fragmentation complicates the user experience, as end-users must navigate multiple networks, bridge assets, and manage complex processes to perform basic actions. The technological landscape of Ethereum mirrors its funding landscape, which has become equally fragmented and difficult to navigate for builders across the lifecycle of their projects. This fragmentation stalls innovation as projects struggle to secure sustainable funding.

To address this issue, Ethereum needs to adopt blockchain-based funding mechanisms that better align with its complex, community-driven, and experimental nature. Traditional funding programs often focus on early-stage projects, neglecting the long-term needs of builders in Web3. This can be misleading, as the financial returns for many projects might not come in the short term, leaving builders struggling to achieve sustainable growth. Funding mechanisms must support builders throughout the entire product lifecycle.

One promising blockchain-powered funding model is Retroactive Public Goods Funding (RetroPGF), which rewards projects based on their proven impact rather than their speculative potential. This model is well-suited to Ethereum’s fragmented ecosystem, where public goods like open-source software, developer tools, and interoperability solutions often struggle to attract upfront investment. RetroPGF pools funds from Decentralized Autonomous Organizations (DAOs) or ecosystem contributors and distributes them retroactively to projects that have demonstrated value. This ensures that critical infrastructure receives the support it needs at the right time, aligning incentives and focusing on delivering real value.

Another powerful tool is quadratic funding, which distributes capital based on the breadth of community support rather than the size of individual contributions. This approach levels the playing field for smaller projects and grassroots initiatives, which often struggle to compete with well-funded competitors in traditional funding models. Quadratic funding matches small donations from a large number of supporters with a larger pool of funds, reflecting the collective intelligence of the community and ensuring that projects with widespread grassroots support receive the majority of funding.

Tokenizing the value of public goods projects, such as governance rights or revenue streams, allows founders to open their projects to a broader pool of supporters through fractional investing mechanisms. This creates a diverse and passionate investor base, democratizing access to capital and reducing reliance on traditional funding sources. For example, developers building a cross-chain interoperability solution could tokenize their project’s governance rights, allowing supporters to contribute micro-investments in exchange for a stake in its success. This not only provides the project with much-needed funding but also fosters a sense of ownership and alignment among its supporters.

In a fragmented ecosystem like Ethereum, fractional investing can help bridge the gaps between chains by incentivizing collaboration and shared ownership. Projects that might otherwise operate in isolation can tap into a unified pool of capital, creating a more interconnected and resilient ecosystem. At the heart of these blockchain-powered funding models is the concept of on-chain ownership. By tokenizing their work and leveraging blockchain’s transparency, creators and builders can establish direct relationships with their supporters, eliminating intermediaries and ensuring that value flows back to those who believed in them from the start.

On-chain transactions also make funding flows visible and auditable, reducing fraud and fostering trust. This transparency is particularly important in a fragmented ecosystem like Ethereum, where users and developers often struggle to navigate complex and opaque funding structures. One strategy to source funding for these cross-L2 initiatives is to make funding Ethereum common goods a condition of being a Stage 1 or Stage 2 rollup. These rollups, once they’ve reached that level of decentralization, rely on a distributed community and tools for governance. Funding these common goods and tools is not only justified but necessary for their continued growth.

An alternative would be to redirect the Ethereum Foundation grants program towards solving this issue. The Ethereum Foundation needs to better support the cross-L2 experience, and funding common goods is key to addressing these challenges. Ethereum’s fragmentation goes beyond technical challenges; it is fundamentally a funding challenge. By adopting blockchain-powered funding models like RetroPGF, quadratic funding, and fractional investing, the ecosystem offers a way to align incentives, amplify community support, and democratize access to capital, ensuring that resources flow to the projects that need them most.