Pseudo-free market BS. All hail the miners!
My fear is that people who want the settlement layer to be more like a payment layer are like people who want to build computer games out of an assembly language. We need payment layers, not to turn the settlement layer into something that it is not.
I suppose it is good PR to say that this is all a debate over whether we should make Bitcoin usable or not, but let's be honest, this debate is about how we think we should make bitcoin usable. Do we try to make bitcoin itself super-usable at the potential expense of its reliability and trustworthiness? Or do we try to create layers on top of bitcoin that preserve bitcoin's trustworthiness and yet also provide usability via those layers? (A common analogy, do we try to improve the internet to the point where everyone suddenly gets that it is useful, or do we develop layers on top of the internet, like the Web, that make its usefulness obvious?)
My argument is this: Money systems depend on trust and usability, one cannot exist without the other, just as the OP said. However, if we try to merge trust and usability into one system, we risk a situation where the system lacks both. It will still be difficult to use, and yet people won't feel it is a safe place to put their money either. In other words, it will remain exactly as it is today. Modern money systems don't work that way and neither should bitcoin.
Layered tiers of a monetary system is foundational to how modern money works. The "M"s designation of different types of money --m0, m1, m2, etc -- is meant to represent these layers. The further up you go in layers, the faster the money becomes, but also the less dependable and trustworthy the money becomes. Likewise, base money, like cash, is slow and cumbersome, yet it is the most trustworthy form of money in an economy. In the modern economy, cash is considered real money and more real and dependable than bank credit. If the banking system experiences a crisis, bank credit could become worthless overnight, whereas cash will only rise in value. So there is an intrinsic tradeoff to having fast money and that is that it becomes less reliable money. Same was true back in the days when banknotes were backed by gold. The physical note was a faster, more liquid form of money. Gold was cumbersome and slow but more trusted and dependable.
"Settlement layer" is just another way of saying "base money." They are really the same thing. The reason a layer is the settlement layer is precisely because it is made out of base money, i.e., real money. If I went to you and said, "look, I promise I'll swing buy and pay you $100 in cash tomorrow" that would be the payment layer. It is fast, but it lacks trust because ultimately real money hasn't been transferred until I actually pay you in hard cash. When I do pay you in hard cash, that is called settlement. Settlement layer simply refers to people or institutions concluding all promises to pay with actual payment. So the settlement layer is actually just base money. In the modern financial system, when you pay someone with cash, you are using the settlement layer.
A settlement layer is the fundamental monetary force behind the economy. In the modern system, the settlement layer is institutionally controlled by the central bank. They are the ones who have the sole right to create cash, and as such money held in the central bank is considered as good as having cash. Only commercial banks are allowed to hold accounts with the central banks and all settlements between commercial banks are mostly concluded by transferring money held in accounts at the central bank. That is to say, for all intents and purposes, the central bank is the settlement layer in the modern system.
Bitcoin functions as a central bank. It could, in theory, replace central banks. It prints base money, called 'bitcoins,' which is then hands out to the miners who are the equivalents of the commercial banks. In the Bitcoin system, miners are bankers. The central bank, Bitcoin, then is ultimately controlled by the collection of those miners who can decide to set Bitcoin policy. This is exactly how the modern banking system works, the bankers collectively decide on how the central bank should set policy.
Many people think of banks as a place people store their money for safe keeping, and then the bank uses that money to make more money and spark growth in the economy through lending. However, what people forget is that the power of banks comes not from the fact that people give them money, but from the fact that they hold base currency. Today, most base currency held by banks comes from the central bank printing it and handing it to them, not from people depositing it. In fact, most people don't deposit cash into banks anymore, they just move bank credit around. By having large sums of base currency, banks can settle with other banks and neither bank needs to be concerned with the internal affairs of the other.
In other words, banks allow consumers and the larger economic system to use money off-chain, so to speak, that is their function, always has been. Then they settle accounts at the end of the day on-chain, that is to say at the settlement layer. It is precisely this power that allows them to lend (i.e., create broad money) and creates the varied payment networks. If all transactions had to be done through the central bank then that one bank would control everyone's money and decide who deserved loans and who didn't. It would be a centralized economy on steroids, the financial system wouldn't exist. By not trying to let the central banks do everything, the monetary system was allowed to become robust. (Obviously, it is corrosive and needs to be replaced by something better, but one can't deny that the modern financial system has been a huge success even if it is nearing the end of its days.)
Furthermore, a global central bank, Bitcoin, is simply not going to work unless it is trusted by everyone. And it won't be trusted by everyone unless it is considered fair. Trust in a global central bank is not going to be there if it is perceived as being controlled by someone untrustworthy. If someday the majority of miners work for the Chinese government, how much trust can there really be in bitcoin by people living in other countries? Decentralized control is the only way to achieve a global central bank. But my understanding is that increasing the block size can potentially lead to increased incentives for mining centralization, precisely the opposite of what we want. And once a high degree of centralization occurs, since the miners must approve future changes, what can get us to reverse course? This would weaken the inherent trust in the base currency that comes from the decentralization of control. Put simply, raising the block size limit threatens to undermine the foundation of the bitcoin system which is decentralization, resulting in a less trusted base currency. Since trust is the most important feature of base currency, this isn't something people should take lightly.
Off-chain transactions, payment layers, allow for the growth of a more decentralized ecosystem around the base layer as well as the emergence of cryptocurrency banking and lending, and more widespread use of 2.0 tokens and currencies built on top of bitcoin. By creating payment layers you will far outstrip what base bitcoin can ever achieve in terms of usability left to its own devices. This is because the whole role and purpose of payment layers is to increase usability, and if that is how they are financially incentivized, they will come up with the best solutions and thus open the doors for mass adoption. You get both a profoundly trusted base layer, and a decentralized, competitive market for payment layers and usability, all rooted in a non-state, non-institutionally controlled currency. By not constricting the system to ONLY base money, broad money creation can allow for an explosion in the bitcoin ecosystem and innovation around the use and control of that broad money.
On the other hand, raising the block size limit increases mining centralization, reducing trust in the base currency, but doesn't increase incentives for profiting from innovation around increased usability solutions, thus limiting banking and lending innovation. Essentially, it keeps bitcoin where it is today, stagnating under the weight of the fact that people don't really need it and it is not really a safe place to keep your money. The killer app for bitcoin hasn't been invented yet, raising the block limit helps to assure that it never will be. This is precisely because the future killer apps are the payment layers and all that comes with them. When Bitcoin achieves a profound level of usability from the payment layers, and a high degree of trust from its decentralized base settlement layer, it will be completely unstoppable. But if you water down the decentralization and think the current system, just with a larger block size limit, is good enough as a payment system ... we will never get past where we are today.
Then you add those real world limitations on it and see which part you can compromise