Why is the size of L1 cache smaller than that of the L2 cache in most of the processors?
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.
There are different reasons for that.
L2 exists in the system to speedup the case where there is a L1 cache miss. If the size of L1 was the same or bigger than the size of L2, then L2 could not accomodate for more cache lines than L1, and would not be able to deal with L1 cache misses. From the design/cost perspective, L1 cache is bound to the processor and faster than L2. The whole idea of caches is that you speed up access to the slower hardware by adding intermediate hardware that is more performing (and expensive) than the slowest hardware and yet cheaper than the faster hardware you have. Even if you decided to double the L1 cache, you would also increment L2, to speedup L1-cache misses.
So why is there L2 cache at all? Well, L1 cache is usually more performant and expensive to build, and it is bound to a single core. This means that increasing the L1 size by a fixed quantity will have that cost multiplied by 4 in a dual core processor, or by 8 in a quad core. L2 is usually shared by different cores --depending on the architecture it can be shared across a couple or all cores in the processor, so the cost of increasing L2 would be smaller even if the price of L1 and L2 were the same --which it is not.
@Aater's answer explains some of the basics. I'll add some more details + an examples of the real cache organization on Intel Haswell and AMD Piledriver, with latencies and other properties, not just size.
For some details on IvyBridge, see my answer on "How can cache be that fast?", with some discussion of the overall load-use latency including address-calculation time, and widths of the data busses between different levels of cache.
L1 needs to be very fast (latency and throughput), even if that means a limited hit-rate. L1d also needs to support single-byte stores on almost all architectures, and (in some designs) unaligned accesses. This makes it hard to use ECC (error correction codes) to protect the data, and in fact some L1d designs (Intel) just use parity, with better ECC only in outer levels of cache (L2/L3) where the ECC can be done on larger chunks for lower overhead.
It's impossible to design a single level of cache that could provide the low average request latency (averaged over all hits and misses) of a modern multi-level cache. Since modern systems have multiple very hungry cores all sharing a connection to the same relatively-high latency DRAM, this is essential.
Every core needs its own private L1 for speed, but at least the last level of cache is typically shared, so a multi-threaded program that reads the same data from multiple threads doesn't have to go to DRAM for it on each core. (And to act as a backstop for data written by one core and read by another). This requires at least two levels of cache for a sane multi-core system, and is part of the motivation for more than 2 levels in current designs. Modern multi-core x86 CPUs have a fast 2-level cache in each core, and a larger slower cache shared by all cores.
L1 hit-rate is still very important, so L1 caches are not as small / simple / fast as they could be, because that would reduce hit rates. Achieving the same overall performance would thus require higher levels of cache to be faster. If higher levels handle more traffic, their latency is a bigger component of the average latency, and they bottleneck on their throughput more often (or need higher throughput).
High throughput often means being able to handle multiple reads and writes every cycle, i.e. multiple ports. This takes more area and power for the same capacity as a lower-throughput cache, so that's another reason for L1 to stay small.
L1 also uses speed tricks that wouldn't work if it was larger. i.e. most designs use Virtually-Indexed, Physically Tagged (VIPT) L1, but with all the index bits coming from below the page offset so they behave like PIPT (because the low bits of a virtual address are the same as in the physical address). This avoids synonyms / homonyms (false hits or the same data being in the cache twice, and see Paul Clayton's detailed answer on the linked question), but still lets part of the hit/miss check happen in parallel with the TLB lookup. A VIVT cache doesn't have to wait for the TLB, but it has to be invalidated on every change to the page tables.
On x86 (which uses 4kiB virtual memory pages), 32kiB 8-way associative L1 caches are common in modern designs. The 8 tags can be fetched based on the low 12 bits of the virtual address, because those bits are the same in virtual and physical addresses (they're below the page offset for 4kiB pages). This speed-hack for L1 caches only works if they're small enough and associative enough that the index doesn't depend on the TLB result. 32kiB / 64B lines / 8-way associativity = 64 (2^6) sets. So the lowest 6 bits of an address select bytes within a line, and the next 6 bits index a set of 8 tags. This set of 8 tags is fetched in parallel with the TLB lookup, so the tags can be checked in parallel against the physical-page selection bits of the TLB result to determine which (if any) of the 8 ways of the cache hold the data. (Minimum associativity for a PIPT L1 cache to also be VIPT, accessing a set without translating the index to physical)
Making a larger L1 cache would mean it had to either wait for the TLB result before it could even start fetching tags and loading them into the parallel comparators, or it would have to increase in associativity to keep log2(sets) + log2(line_size) <= 12. (More associativity means more ways per set => fewer total sets = fewer index bits). So e.g. a 64kiB cache would need to be 16-way associative: still 64 sets, but each set has twice as many ways. This makes increasing L1 size beyond the current size prohibitively expensive in terms of power, and probably even latency.
Spending more of your power budget on L1D cache logic would leave less power available for out-of-order execution, decoding, and of course L2 cache and so on. Getting the whole core to run at 4GHz and sustain ~4 instructions per clock (on high-ILP code) without melting requires a balanced design. See this article: Modern Microprocessors: A 90-Minute Guide!.
The larger a cache is, the more you lose by flushing it, so a large VIVT L1 cache would be worse than the current VIPT-that-works-like-PIPT. And a larger but higher-latency L1D would probably also be worse.
According to @PaulClayton, L1 caches often fetch all the data in a set in parallel with the tags, so it's there ready to be selected once the right tag is detected. The power cost of doing this scales with associativity, so a large highly-associative L1 would be really bad for power-use as well as die-area (and latency). (Compared to L2 and L3, it wouldn't be a lot of area, but physical proximity is important for latency. Speed-of-light propagation delays matter when clock cycles are 1/4 of a nanosecond.)
Slower caches (like L3) can run at a lower voltage / clock speed to make less heat. They can even use different arrangements of transistors for each storage cell, to make memory that's more optimized for power than for high speed.
There are a lot of power-use related reasons for multi-level caches. Power / heat is one of the most important constraints in modern CPU design, because cooling a tiny chip is hard. Everything is a tradeoff between speed and power (and/or die area). Also, many CPUs are powered by batteries or are in data-centres that need extra cooling.
L1 is almost always split into separate instruction and data caches. Instead of an extra read port in a unified L1 to support code-fetch, we can have a separate L1I cache tied to a separate I-TLB. (Modern CPUs often have an L2-TLB, which is a second level of cache for translations that's shared by the L1 I-TLB and D-TLB, NOT a TLB used by the regular L2 cache). This gives us 64kiB total of L1 cache, statically partitioned into code and data caches, for much cheaper (and probably lower latency) than a monster 64k L1 unified cache with the same total throughput. Since there is usually very little overlap between code and data, this is a big win.
L1I can be placed physically close to the code-fetch logic, while L1D can be physically close to the load/store units. Speed-of-light transmission-line delays are a big deal when a clock cycle lasts only 1/3rd of a nanosecond. Routing the wiring is also a big deal: e.g. Intel Broadwell has 13 layers of copper above the silicon.
Split L1 helps a lot with speed, but unified L2 is the best choice. Some workloads have very small code but touch lots of data. It makes sense for higher-level caches to be unified to adapt to different workloads, instead of statically partitioning into code vs. data. (e.g. almost all of L2 will be caching data, not code, while running a big matrix multiply, vs. having a lot of code hot while running a bloated C++ program, or even an efficient implementation of a complicated algorithm (e.g. running gcc)). Code can be copied around as data, not always just loaded from disk into memory with DMA.
Caches also need logic to track outstanding misses (since out-of-order execution means that new requests can keep being generated before the first miss is resolved). Having many misses outstanding means you overlap the latency of the misses, achieving higher throughput. Duplicating the logic and/or statically partitioning between code and data in L2 would not be good.
Larger lower-traffic caches are also a good place to put pre-fetching logic. Hardware pre-fetching enables good performance for things like looping over an array without every piece of code needing software-prefetch instructions. (SW prefetch was important for a while, but HW prefetchers are smarter than they used to be, so that advice in Ulrich Drepper's otherwise excellent What Every Programmer Should Know About Memory is out-of-date for many use cases.)
Low-traffic higher level caches can afford the latency to do clever things like use an adaptive replacement policy instead of the usual LRU. Intel IvyBridge and later CPUs do this, to resist access patterns that get no cache hits for a working set just slightly too large to fit in cache. (e.g. looping over some data in the same direction twice means it probably gets evicted just before it would be reused.)
A real example: Intel Haswell. Sources: David Kanter's microarchitecture analysis and Agner Fog's testing results (microarch pdf). See also Intel's optimization manuals (links in the x86 tag wiki).
Also, I wrote up a separate answer on: Which cache mapping technique is used in intel core i7 processor?
Modern Intel designs use a large inclusive L3 cache shared by all cores as a backstop for cache-coherence traffic. It's physically distributed between the cores, with 2048 sets * 16-way (2MiB) per core (with an adaptive replacement policy in IvyBridge and later).
The lower levels of cache are per-core.
- L1: per-core 32kiB each instruction and data (split), 8-way associative. Latency = 4 cycles. At least 2 read ports + 1 write port. (Maybe even more ports to handle traffic between L1 and L2, or maybe receiving a cache line from L2 conflicts with retiring a store.) Can track 10 outstanding cache misses (10 fill buffers).
- L2: unified per-core 256kiB, 8-way associative. Latency = 11 or 12 cycles. Read bandwidth: 64 bytes / cycle. The main prefetching logic prefetches into L2. Can track 16 outstanding misses. Can supply 64B per cycle to the L1I or L1D. Actual port counts unknown.
- L3: unified, shared (by all cores) 8MiB (for a quad-core i7). Inclusive (of all the L2 and L1 per-core caches). 12 or 16 way associative. Latency = 34 cycles. Acts as a backstop for cache-coherency, so modified shared data doesn't have to go out to main memory and back.
Another real example: AMD Piledriver: (e.g. Opteron and desktop FX CPUs.) Cache-line size is still 64B, like Intel and AMD have used for several years now. Text mostly copied from Agner Fog's microarch pdf, with additional info from some slides I found, and more details on the write-through L1 + 4k write-combining cache on Agner's blog, with a comment that only L1 is WT, not L2.
- L1I: 64 kB, 2-way, shared between a pair of cores (AMD's version of SMD has more static partitioning than Hyperthreading, and they call each one a core. Each pair shares a vector / FPU unit, and other pipeline resources.)
- L1D: 16 kB, 4-way, per core. Latency = 3-4 c. (Notice that all 12 bits below the page offset are still used for index, so the usual VIPT trick works.) (throughput: two operations per clock, up to one of them being a store). Policy = Write-Through, with a 4k write-combining cache.
- L2: 2 MB, 16-way, shared between two cores. Latency = 20 clocks. Read throughput 1 per 4 clock. Write throughput 1 per 12 clock.
- L3: 0 - 8 MB, 64-way, shared between all cores. Latency = 87 clock. Read throughput 1 per 15 clock. Write throughput 1 per 21 clock
Agner Fog reports that with both cores of a pair active, L1 throughput is lower than when the other half of a pair is idle. It's not known what's going on, since the L1 caches are supposed to be separate for each core.