Why is the size of L1 cache smaller than that of the L2 cache in most of the processors ?
The L2 cache is shared between one or more L1 caches and is often much, much larger. Whereas the L1 cache is designed to maximize the hit rate, the L2 cache is designed to minimize the miss penalty (the delay incurred when an L1 miss happens).
L1 is "level-1" cache memory, usually built onto the microprocessor chip itself. For example, the Intel MMX microprocessor comes with 32 thousand bytes of L1. L2 (that is, level-2) cache memory is on a separate chip (possibly on an expansion card) that can be accessed more quickly than the larger "main" memory.
In order to be close to the processor, cache memory needs to be much smaller than main memory. Consequently, it has less storage space. It is also more expensive than main memory, as it is a more complex chip that yields higher performance. What it sacrifices in size and price, it makes up for in speed.
L3 cache is the lowest-level cache. It varies from 10MB to 64MB. Server chips feature as much as 256MB of L3 cache. Furthermore, AMD's Ryzen CPUs have a much larger cache size compared to rival Intel chips.
L1 is very tightly coupled to the CPU core, and is accessed on every memory access (very frequent). Thus, it needs to return the data really fast (usually within on clock cycle). Latency and throughput (bandwidth) are both performance-critical for L1 data cache. (e.g. four cycle latency, and supporting two reads and one write by the CPU core every clock cycle). It needs lots of read/write ports to support this high access bandwidth. Building a large cache with these properties is impossible. Thus, designers keep it small, e.g. 32KB in most processors today.
L2 is accessed only on L1 misses, so accesses are less frequent (usually 1/20th of the L1). Thus, L2 can have higher latency (e.g. from 10 to 20 cycles) and have fewer ports. This allows designers to make it bigger.
L1 and L2 play very different roles. If L1 is made bigger, it will increase L1 access latency which will drastically reduce performance because it will make all dependent loads slower and harder for out-of-order execution to hide. L1 size is barely debatable.
If we removed L2, L1 misses will have to go to the next level, say memory. This means that a lot of access will be going to memory which would imply we need more memory bandwidth, which is already a bottleneck. Thus, keeping the L2 around is favorable.
Experts often refer to L1 as a latency filter (as it makes the common case of L1 hits faster) and L2 as a bandwidth filter as it reduces memory bandwidth usage.
Note: I have assumed a 2-level cache hierarchy in my argument to make it simpler. In many of today's multicore chips, there's an L3 cache shared between all the cores, while each core has its own private L1 and maybe L2. In these chips, the shared last-level cache (L3) plays the role of memory bandwidth filter. L2 plays the role of on-chip bandwidth filter, i.e. it reduces access to the on-chip interconnect and the L3. This allows designers to use a lower-bandwidth interconnect like a ring, and a slow single-port L3, which allows them to make L3 bigger.
Perhaps worth mentioning that the number of ports is a very important design point because it affects how much chip area the cache consumes. Ports add wires to the cache which consumes a lot of chip area and power.
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