What is an Overlay Network?
An overlay network is a virtual or logical network built on top of an existing (base) network, typically leveraging the base network’s infrastructure while adding its own functionality, routing, or services. Overlay networks don’t replace the underlying network; rather, they depend on it for connectivity and communication. They often introduce additional protocols, encapsulation, or abstraction layers while still adhering to—or at least interoperating with—the base network’s core protocols (e.g., TCP/IP in the case of the Internet).
Key characteristics of an overlay network:
Dependence on the Base Network: It uses the base network’s nodes and links for physical connectivity.
Logical Abstraction: It creates a virtual topology or additional functionality (e.g., routing, security) that isn’t natively provided by the base network.
Protocol Compatibility: It typically encapsulates or extends the base network’s protocols rather than replacing them entirely.
VPN as an Overlay Network
A VPN fits the definition of an overlay network in the following ways:
Dependence on the Internet: A VPN relies entirely on the Internet (or another underlying IP network) for its physical connectivity. VPN nodes (e.g., clients, servers, or gateways) are anchored to the base network’s infrastructure—there’s no separate physical layer for VPNs.
Logical Abstraction: VPNs create a virtual private topology over the public Internet. They establish encrypted tunnels (e.g., using protocols like IPsec, OpenVPN, or WireGuard) between endpoints, giving the illusion of a private network while using the public Internet as the transport medium.
Protocol Compatibility: VPNs operate within the TCP/IP framework. They don’t contradict or replace the Internet’s core protocols; instead, they extend them by adding encapsulation (e.g., tunneling protocols like GRE or L2TP) and encryption.
For instance: A VPN might wrap IP packets in an additional header (e.g., an IPsec header) and encrypt the payload. The encapsulated packets are still routed over the Internet using standard IP routing. The base TCP/IP stack remains intact and functional.
Virtualized Nodes: VPN endpoints (e.g., a VPN server or client) can be virtualized (e.g., running as software on a cloud server), but they are still directly tied to the Internet’s addressing and routing system (e.g., using public IP addresses).
In this sense, a VPN is a classic example of an overlay network. It doesn’t aim to be independent of the Internet; it leverages the Internet’s infrastructure while adding privacy and security features through encapsulation and encryption. The VPN’s “nodes” (clients and servers) are not independent—they are participants in the base network, just with additional software or configuration.
Therefore, VPNs are overlay networks because they rely on the Internet’s infrastructure, extend TCP/IP with tunneling and encryption, and don’t introduce a fundamentally independent protocol or topology.
A VPN is indeed an overlay network on the Internet because it meets the criteria by anchoring itself to the Internet’s infrastructure, extending (rather than replacing) TCP/IP, and providing a virtualized layer of functionality (privacy and security) without contradicting the base network’s operation.
Note an important distinction: the dependency and compatibility with the base network are key to defining a true overlay, and VPNs align with this while many blockchain solutions do not.
Fake “Overlay Networks” on Blockchain
In contrast, blockchain systems like the Lightning Network or sidechains don’t fit this definition as neatly—they operate with greater autonomy and don’t rely on the base network’s protocol stack in the same direct, continuous way.
Lightning Network/Sidechains are not real overlay networks because they establish their own protocols and topologies, interacting with the base network (e.g., Bitcoin) only at specific points (e.g., coin transfers or settlement). They are more akin to independent networks with a linkage to the base system.
This is a nuanced point worth exploring:
Lightning Network – a fake overlay network:
The Lightning Network is a second-layer scaling solution for Bitcoin. It enables off-chain transactions between parties using payment channels, with the Bitcoin blockchain serving as a settlement layer.
Protocol Independence: Unlike a VPN, the Lightning Network introduces its own distinct protocol (based on Bitcoin’s scripting system but with unique rules for channel management, routing, and settlement). It doesn’t directly encapsulate Bitcoin transactions in the same way a VPN encapsulates IP packets—it processes transactions off-chain and only interacts with the Bitcoin blockchain to open or close channels.
Network Autonomy: The Lightning Network operates its own peer-to-peer network of nodes, which maintain their own topology and routing mechanisms (e.g., a hub-and-spoke model). While it relies on the Internet for connectivity (like any distributed system), its operational logic is largely independent of Bitcoin’s base protocol until settlement occurs.
Connection to the Base Network: The only direct tie to Bitcoin is the movement of coins (e.g., locking funds in a multisig address on-chain). This is a higher-level linkage rather than a continuous dependence on Bitcoin’s networking stack.
Because of this, the Lightning Network behaves more like a complementary but distinct network rather than a strict overlay. It’s not “anchored” to Bitcoin’s base protocol in the same continuous, infrastructural way that a VPN is anchored to the Internet.
Sidechains – more fake overall networks:
Sidechains are separate blockchains linked to a parent blockchain (e.g., Bitcoin) via a two-way peg, allowing assets to move between them.
Like the Lightning Network, sidechains operate their own consensus rules, node networks, and protocols, which may diverge significantly from the parent chain. For example, a sidechain might use a different consensus mechanism (e.g., proof-of-stake instead of proof-of-work).
Their connection to the base network (e.g., Bitcoin) is limited to the peg mechanism, not a direct reliance on the parent chain’s networking infrastructure or protocol stack.
This independence disqualifies sidechains from being overlay networks in the traditional sense—they are more like parallel networks with an interoperability bridge.
Real overlay networks on blockchain
We bring a perspective to redefine Bitcoin’s architecture by separating its role into two distinct layers:
A Base Network (the Bitcoin Blockchain):
In this view, the Bitcoin blockchain is not seen primarily as a transaction-processing or data-carrying “overlay” on the Internet but rather as a fundamental, secure, immutable “base network.” Much like the Internet’s underlying protocols (e.g., IP) that provide a resilient and standardized communication substrate, the Bitcoin blockchain provides an unalterable, time-stamped record of activity secured by decentralized consensus (i.e., Proof of Work). Its primary job is to anchor data with cryptographic proofs and maintain an indisputable record of events.
An Overlay Network Built on the Base:
On top of this immutable base layer, one can construct an overlay network that carries richer, more voluminous, or application-specific data. In this architecture, the actual payload—the more complex or larger data sets—are not stored by every mining node. Instead, the overlay network handles the heavy lifting of data management, while only essential proofs (such as cryptographic hashes) or “anchors” are committed to the Bitcoin blockchain. These anchors serve as pointers or certificates of authenticity and integrity.
The following sections break down the ideas behind this layered architecture, how it works.
How it works
1. The Bitcoin Blockchain as a Base Network
Immutability and Consensus:
The blockchain is maintained by a network of miners who agree on a single, immutable history. This ensures that any data anchored to it benefits from Bitcoin’s robust security guarantees.
Minimal Data Payload:
To remain efficient and secure, the blockchain is purposefully kept lean. Its primary function is to record transactions and related metadata—not to carry extensive application data. This lean design avoids bloat and maintains decentralized verification.
A Trusted Timestamping Mechanism:
Every block in the chain is time-stamped and linked to previous blocks, creating a chronological, tamper-resistant ledger. This is analogous to the Internet’s underlying routing protocols: it provides a trusted “when” and “what” record without needing to include every detail of higher-level interactions.
2. Constructing an Overlay Network on Top of the Blockchain
Data Anchoring Rather Than Full Storage:
In this layered approach, the overlay network handles the full payload of application data (which might be too large or dynamic for the base network). Instead of replicating all that data across every node (as miners do with the blockchain), the overlay network periodically creates cryptographic summaries (hashes) of its data and anchors these to the Bitcoin blockchain.
Example: A complex contract or digital asset may exist off-chain in a distributed storage system. At intervals or upon state changes, a hash of this data is embedded in a Bitcoin transaction. This hash acts as a verifiable fingerprint that can later confirm the integrity or existence of the overlay data.
Visualization and Abstraction:
The term “visualization” or “abstraction” refers to the way the overlay network’s state can be “seen” or verified through its anchored data on the blockchain. Although the full data isn’t stored by the mining nodes, anyone can verify that an overlay event occurred because its cryptographic summary is publicly recorded on the Bitcoin blockchain.
Abstract Representation:
Tools or protocols can “reconstruct” the overlay state by reading these anchors. The visual or logical representation of the overlay network is then derived from these blockchain entries, allowing participants to verify and trust the overlay without needing all the underlying data in every node.
3. Advantages of This Separation:
Scalability: By offloading heavy data storage to the overlay network, the base layer remains lightweight and efficient.
Flexibility: Developers can design complex, high-capacity applications (like smart contracts, asset registries, or decentralized applications) that operate off-chain yet still benefit from the trust and security of Bitcoin’s consensus.
Cost and Resource Efficiency: Mining nodes are spared the burden of storing every piece of application data. They need only manage and validate the anchoring proofs, reducing bandwidth, storage, and computational demands.
The genuine Bitcoin’s Perspective
It should be emphasized that Bitcoin’s real innovation lies not merely in its blockchain as a simple ledger but in its potential as a foundational computing network—a base layer upon which more advanced, flexible overlay networks can be constructed. His key points include:
Bitcoin as a “Computer” or Base Network:
Bitcoin’s blockchain can be characterized as analogous to a computer’s operating system or the underlying infrastructure of the Internet. In this role, it provides a secure, immutable environment for further computations or data structures to operate.
Overlay for Enhanced Functionality:
According to the above perspective, many of the functionalities and applications (like sidechains, smart contracts, or even advanced asset management systems) should be seen as overlay networks. These overlays operate with their own protocols and data storage mechanisms while relying on the Bitcoin blockchain only for anchoring critical checkpoints or proofs. This separation ensures that while the overlay can be rich and dynamic, its integrity is continuously validated by the immutable base layer.
Anchoring and Visual Abstraction:
Data from these overlays can be “anchored” to the Bitcoin blockchain. This means that although the full payload isn’t stored on the miners’ nodes, a secure and verifiable abstraction (like a hash or digital fingerprint) is stored on-chain. This provides a means to “visualize” or verify the overlay’s state without the blockchain being overloaded with data.
Separation of Roles:
In his view, mining nodes are responsible for maintaining the integrity of the base network (the Bitcoin blockchain) while specialized systems or nodes handle the bulk of the overlay’s data. This division allows for a modular architecture where improvements or innovations can be made on the overlay without disturbing the foundational security properties of the Bitcoin base layer.
Practical Implications and Use Cases
Scalability Solutions:
By keeping the base layer lean and using the overlay for complex data, the overall system can scale better. This is especially important when large or frequent data transactions are involved, which would otherwise risk congesting the blockchain.
Decentralized Applications (DApps):
DApps can leverage the overlay model by executing complex logic off-chain while periodically anchoring their state on Bitcoin. This allows them to benefit from Bitcoin’s security without incurring the high costs and limited throughput of storing every detail on-chain.
Data Notarization and Proof of Existence:
For applications that require secure timestamping or proof of data existence, the overlay can store full documents or records off-chain and then record a hash on the Bitcoin blockchain. This provides indisputable evidence that the data existed at a given time and has not been altered.
Improved Efficiency for Specialized Networks:
Industries that require high-throughput or specialized data management can build tailored overlay networks (for instance, for supply chain tracking, digital identity, or IoT data aggregation) that use Bitcoin only as the ultimate arbitrator of truth.
Conclusion
In this layered model, Bitcoin is reinterpreted as the base network—the secure, immutable, consensus-driven backbone analogous to the Internet’s core protocols. An overlay network is then built on top, designed to handle richer, more dynamic data without burdening the miners with storage of every payload.
We advocates this architecture as a means to unlock Bitcoin’s full potential: by separating the roles of security (provided by the base layer) and data complexity (handled by the overlay), the system can remain both scalable and secure while offering a versatile platform for future applications.
This layered approach—anchoring the overlay’s data to the Bitcoin blockchain via visualization or abstraction—ensures that while the mining nodes do not store every piece of data, the integrity, timestamp, and proof of that data remain indisputable.