Written by: fbifemboy
Editor: Skypiea, the Tao of DeFi
Over the past year, the phenomenon of Maximum Extractable Value (MEV; formerly known as Miner Extractable Value) has attracted public attention, partly due to the apparent high level of technical skill required to extract MEV and partly due to the successful extraction of MEV of profitable nature. However, despite MEV playing an increasingly important role in the blockchain ecosystem, discussions of MEV are often confusing and imprecise. Since the total amount of MEV withdrawn is likely to be in the billions of dollars ($600 million of MEV is tracked on the Ethereum mainnet alone via MEV-Explore), it is not surprising that much of the MEV conversation focuses on MEV withdrawn profits ; however, the scope, evolution, and management of MEV are far-reaching topics that may have implications for blockchain security in the long term.
In this article, we will aim to clarify some important topics surrounding MEV. We will first introduce and explain the precise definition of MEV. We will then discuss how MEV has developed over the past year and extrapolate to understand the key issues and concerns arising from the continued growth of MEV and the broader crypto economy in the coming years. We will pay particular attention to the incentive structures (existing and new) that motivate different actors in the MEV ecosystem. Finally, we conclude with a brief survey of future research directions.
The roles of block producers, searchers, protocols, and users in the creation and extraction of MEV interact with each other in various dynamic ways, often making MEV discussions somewhat confusing. Through this article, we will analyze MEV from the perspective of how different systems or proposed solutions benefit and harm different actors in the system. We will see that this is a clear and efficient framework through which we can begin to deduce the long-term end state of MEV in different cryptoeconomic systems.
What is MEV?
Ethereum.org defines MEV precisely as “the maximum value that can be extracted from block production in excess of standard block rewards and gas fees by including, excluding, and changing the order of transactions in a block.” At first glance, this seems to be related to MEV Very different from the common concepts, MEV is used almost interchangeably with "running a trading robot" in popular dictionaries. However, if we carefully examine a few common MEV examples, we will easily understand how they relate to the formal definition.
Recall that MEV was originally defined by Daian et al. "Flash Boys 2.0: Front-running, transaction reordering, and consensus instability in decentralized exchanges"(2019) first look at “the widespread and increasing deployment of arbitrage bots in blockchain systems” and then extrapolate to the more general phenomenon of value extraction by prioritizing transactions within and across blocks. In addition to arbitrage, another classic example of MEV that many users have personally experienced is the sandwich attack phenomenon.
In addition to arbitrage and sandwich attacks, there are many other forms of MEV, especially so-called “exotic” or “long-tail” MEV. For example, the generalization front-running phenomenon is vividly illustrated in a very popular article “Ethereum is a dark forest” by Paradigm’s Dan Robinson, while Qin et al . How dark? It is studied more comprehensively in (2021). In this article we will not seek a comprehensive classification of all forms of MEV; curious readers are referred to the Flashbots Research Vault.
By analyzing arbitrage and sandwich attacks, we can see that both derive value from the ability of block producers to reorder transactions arbitrarily, and are therefore appropriately considered MEV:
arbitrage. Arbitrage opportunities are characterized by a series of trades that allow the trader to end the sequence with a larger amount of the initial asset. When executed atomically (i.e. the entire sequence of trades is contained in a single trade and each part is executed only if the entire arbitrage is successful), this profit is risk-free (minus transaction fees).
Assume that prices on two markets (including, for example, two independent liquidity pools on the same AMM) differ enough for the same asset that a profitable arbitrage opportunity exists. This "imbalanced" state must be the final result of users' transactions with the relevant market. Suppose a user creates an arbitrage opportunity (for example, makes a very large purchase or sale); miners can then insert their arbitrage trade immediately after creating the arbitrage trade to capture the arbitrage.
In this case, the arbitrage opportunity could, in principle, go unclaimed for many blocks. However, block producers are privileged by being able to “support” arbitrage trades, making their profits essentially risk-free. Instead, non-block producer entities seeking to exploit arbitrage opportunities must pay block producers for the privilege of inserting an arbitrage trade immediately after it is created, or risk the transaction failing if the arbitrage opportunity disappears before then. So we see that in this common scenario, even if external (non-block producer) users receive part of the arbitrage profits, they fundamentally rely on the block producers to reorder transactions to ensure risk-free profits. ability.
Sandwich attack. A "sandwich attack" is a phenomenon in which a user's transaction is "sandwiched" between two transactions. Generally speaking, block producers have the ability to monitor pending transactions (which have not yet been sorted and assembled into a verified block) in a location called the "mempool" (memory pool), which is the "memory pool". "pool"), therefore inserting one's own transactions before certain target transactions, a practice called "front-running". Upon noticing that a user is about to purchase a given asset, the sandwicher (1) inserts a large purchase of the same asset immediately before the target trade (front-running), and (2) after the target trade (so-called "backtracking"). Since the target trade is executed between the two, the sale is executed at a better price than the purchase, resulting in profit for the sandwicher.
We immediately see that ideal execution of the sandwich attack relies on transaction ordering privileges. If transactions cannot be ordered as needed, other transactions may occur between the two halves of a sandwich attack, which may result in losses for the sandwich attacker. Similar to arbitrage opportunities, many sandwich attacks are conducted by non-block producing entities; however, these entities still rely on the block producer's privileges and compete to capture the value of these privileges by paying fees to the block producer.
In both examples, it’s clear how MEV relies on the ability to reorder transactions, a privilege given to block producers.
Occasionally it is claimed that this definition of MEV is "too broad", a criticism that applies more to the case of arbitrage than to sandwich attacks; however, even in the case of arbitrage, the ability to sort transactions is clearly of non-zero value, so Arbitrage trades are placed directly after the trade that created the arbitrage opportunity. Therefore, we might distinguish two alternative definitions of “MEV opportunity”:
Strictly defined. MEV opportunities are characterized by having most or all of the value captured through deal sequencing privileges.
License definition. MEV opportunities are characterized by at least a small portion of the value being captured by transaction ordering privileges.
However, in both cases, at least some value (even if relatively small) is gained by trading for sorting privileges. Failure to distinguish between MEVs, strictly defined MEV opportunities, and license-defined MEV opportunities may be the cause of some confusion about what "is" or "is not" a MEV.
A more restrictive criterion of MEV is sometimes assumed, where the value extracted must be close to risk-free, storing risk to a minimum before realizing profits. This definition does not include so-called "probabilistic MEV", where the value of the MEV opportunity is not fully calculable, but is randomly sampled from some distribution. Although readers are free to define MEV however they like, we do not believe that an overly strict definition of MEV is actually useful. Ultimately, considerations about MEV's risk and reward apply not only to the risk-free profits gained from complex trade reordering schemes, much of which is unobtainable without the reordering privilege, but accordingly, to MEV's greater Broader, more inclusive definitions have proven to have the greatest utility. Whenever users are not completely insensitive to the exact position of their transactions in a given block or even a series of consecutive blocks, their willingness to pay to reduce uncertainty about the relative position of their transactions represents an MEV of cryptoeconomic significance. exist.
Beneficiaries of MEV extraction
As noted above, although MEV is inherently associated with block production privileges, and, accordingly, with the ability to reorder transactions at will, a complex economy has developed around MEV extraction, and thus block producers are not MEV extracted The only beneficiary. Due to the complexity of identifying and processing MEV withdrawal opportunities, the vast majority of MEV is currently withdrawn by external "seekers" who submit transactions to block producers for inclusion in future blocks. In some (perhaps many) cases, the block producers themselves may be searchers. If not, the searcher will usually pay the block producer to place their transaction in the desired position within the block (usually at the top), the most common way of payment is through a priority gas auction (PGA) or a sealed auction OK (e.g. via Flashbots).
In addition to block producers and searchers, the broader ecosystem may gain general benefits or suffer various costs from MEV extraction. For example, especially before the implementation of EIP-1559, PGA often raised gas prices on the Ethereum mainnet to extremely high levels, greatly reducing network availability for ordinary users due to expensive and unpredictable transaction costs. At the same time, however, efficient arbitrage between AMM pools ensures the consistency of asset prices across markets and the spread of price discovery. Additionally, some protocols rely on arbitrageurs to function "correctly", such as Balancer, where external arbitrage is a mechanism for rebalancing users' fixed-weight asset portfolios, or Primitive, where external arbitrage evolves users' option positions into correct returns. Therefore, designing appropriate MEV extraction to incentivize positive-sum behavior and accumulate rewards for the right participants has profound implications for the long-term health of any given blockchain.
Block producers and searchers
Since there are a large number of players in the MEV ecosystem, the easiest way is to start by analyzing the benefits received by block producers, as they play an important role in the functionality of the blockchain. Early blockchains such as Bitcoin and Ethereum relied on Proof of Work (PoW) as a consensus mechanism, where miners were the block producers. However, as blockchain architecture has evolved, we have seen the development of Proof-of-Stake (PoS) blockchains, where validators act as block producers by incentivizing good behavior through their staked tokens character of. (The Ethereum mainnet itself plans to transition to proof-of-stake in 2022, an event known as a “merger.”) The growing popularity of proof-of-stake blockchains is prompting a shift from “miner extractable value” to “maximum extractable value; Likewise, considering block producers generally rather than miners individually would expand the applicability of our analysis. As we will see, examining the block producer’s perspective will also give us an understanding of the dynamics driving searchers, as there are huge advantages to integrating these two roles.
Block producers benefit in two main ways. First, block producers can extract MEV themselves by running software to search for extraction opportunities as they propose blocks. Second, they may sell transaction reordering rights to searchers. In the first case, they capture all extracted value; notably, in the second case, they currently capture an increasing proportion of the extracted value as competing searchers submit higher bids ( That is, competing searchers are willing to accept increasingly lower shares of the extracted value in order to gain the right to extract any value).
There are many fascinating developments here:
Increase network dominance. Independent block producers implementing different MEV search strategies are strongly incentivized to merge and form larger and larger entities. By combining their MEV strategies with a greater ability to invest in searcher R&D, the merger allows both parties to extract more value than they could capture on their own (i.e., MEV extraction is subject to economies of scale). In particular, small block producers without sufficient capital to develop competitive MEV strategies may be acquired by larger integrated searcher block producer groups, thereby threatening the decentralization of the entire blockchain. While auction mechanisms such as the Flashbots Auction mitigate this risk by allowing even small validators to capture a majority share of MEV revenue, increasing MEV complexity may result in the loss of integrated searcher-block producers (discussed below) Manifested differently, this will in time exacerbate the centralization risks posed by block producer mergers and acquisitions.
Additionally, block producers who are able to extract MEV more efficiently will gain an increasing share of network dominance, all else being equal. In a world without MEV and a fixed set of block producers with constant hash rate or stake, rewards are distributed roughly proportionally and the relative power of different block producers remains constant over time. Therefore, if certain block producers are effectively compensated through superior MEV extraction at a higher rate than other block producers, they will asymptotically dominate the network.
MEV withdrawal rewards can themselves be used to acquire a larger portion of the network; additionally, in proof-of-stake blockchains, they can induce users to delegate tokens to their stake by offering them liquid staking derivatives that It is possible to capture a portion of the MEV profits generated by delegated staking, such as the recently released Eden Network yyAVAX. Note that MEV extraction itself scales super-linearly with network advantage, with a direct linear component coming from the ability to reorder transactions directly with the hash Rate or stake share expansion, another component comes from new MEV opportunities generated by reordering transactions across multiple consecutive blocks. That being said, it may take some time for these winner-take-all dynamics to play out, as evidenced by the fact that despite Ethermine banning bundles containing DEX transaction front-running, it still maintains a significant portion of Ethereum’s total hashrate (currently at 30%).
Taken together, these constitute the centralization risks commonly discussed in MEV. As the degree of centralization increases, the blockchain will face adverse behaviors such as 51% attacks or malicious reorganization. However, it is worth noting that as the network dominance of any given block producer increases, they are increasingly incentivized to protect the value of the entire network, which may reduce the risk of truly damaging attacks on the chain.
Integration of searchers and block producers. If block producers don't have anywhere near the maximum capacity for MEV extraction, then they have a strong incentive to sell the right to reorder transactions to searchers, hence the growing popularity of MEV-Geth, which supports known transaction bundling Closed bid auction system as Flashbots Auction.
It is conceivable that a competitive market for MEV extraction will result in the vast majority of block producers whose greatest profits will come from selling their re-ordering rights in that market, rather than extracting MEV themselves. As a result, some hypothesize that Flashbots or Flashbot-like mechanisms will become dominant in the coming years, as competition among searchers gradually reduces searcher profit margins to very low levels, and accordingly allows block producers to Get the vast majority of MEV marginal investment close to zero.
However, as Doug Colkitt points out, this only works if all participants agree on the value of a given transaction reordering. This is currently the case for the vast majority of MEV opportunities; for example, the value of atomic arbitrage is easy to calculate. However, as blockchain transaction complexity increases, it is natural to expect that searchers will become increasingly different in their ability to assess the total extractable MEV in any given transaction set. In this case, being a combined searcher-validator rather than a sole searcher becomes very advantageous, because if other searchers value the reranking opportunity higher than you do, they will bid accordingly, You will be able to extract the zero value. Conversely, if you are an integrated searcher-validator (or you have an exclusive private relationship with a block producer, etc.), you will be able to act on your private information and capture the associated value.
In essence, the above situation is similar to the "winner's curse" in classic auction theory, where participants receive private information about the value of the item being bid. As mentioned above, private information, i.e., different valuations of the chances of reordering any given transaction, may emerge as the complexity of blockchain transactions increases, where sophisticated searchers will have a significant advantage over naive searchers . However, in addition to the complexity of transactions in any given blockchain, different valuations may also be the result of statistical MEV, where searchers may spread risk across time and/or space (e.g. on multiple blockchains Execute trades) instead of just focusing on atoms, guaranteed profit opportunities. Finally, the increasing popularity of low-fee blockchains such as Solana or appchains in the Cosmos ecosystem effectively makes high-complexity, low-margin MEV opportunities increasingly viable, while high-transaction-fee blockchains such as Ethereum mainnet A higher floor is set for profitability in the number of MEV opportunities, and therefore a lower upper limit on their complexity (under reasonable assumptions about the complexity versus profit trade-off in the MEV opportunity space). Empirical evidence for this assumption comes from Jump Capital’s dominance among Solana validators. They account for approximately 20% of total Solana staking, and they are likely leveraging their high levels of human capital to withdraw the vast majority of available MEV.
general security interests. Although the ability of block producers to capture MEV may lead to long-term centralization risks, where dominant producers are increasingly able to launch attacks on the network as mentioned above, the existence of MEV incentivizes new network entrants, This directly offsets the risk of high-powered centralized search validators. In addition, the financial value gained by the block producers themselves increases the security of the entire network from external attackers, who must deploy large amounts of funds to control a large portion of the network's computing power or pledge volume.
Therefore, MEV has both positive and negative impacts on the security of a given chain. The general accrual of MEV to block producers increases network security, while the specific accrual of MEV to specific block producers decreases network security.
Fundamentally, it makes perfect sense that as transaction complexity and search power increase over time, differences in the ability of block producers to extract MEV will intensify. Therefore, it is conceivable to imagine a world where the most capable searchers integrate with the block producers and end up constituting a large portion of the network's hashpower or staking, along with almost all other searchers (compared to the top searchers, private information Relatively few) capturing fewer and fewer MEVs through auction mechanisms like Flashbots. While this may be an acceptable trade-off for improving overall network security, some strategies have been proposed to further reduce the risk of centralization, which we will discuss in the next section.
Ordinary blockchain users
In addition to block producers and searchers, regular users can also benefit from efficient MEV extraction (in addition to the general security benefits discussed earlier):
Price stability across markets. Arbitrage between liquidity pools ensures that asset prices do not vary widely between different DEXs and blockchains, allowing users to trade freely without having to check prices on dozens of markets beforehand.
Conditional deal. Some systems rely on timely execution of certain transactions when certain conditions are met. For example, lending platforms rely on users to liquidate positions below their minimum collateralization ratio. A protocol may also want certain utility functions to run after fixed intervals. In both cases, there is competition among searchers to bribe block producers to reorganize blocks in a way that allows the searcher to be the first to receive the reward associated with the desired transaction. Therefore, these opportunities, although considered by some to be just "bots on the chain," ultimately do meet the requirements of MEV to some extent.
Of course, users may also suffer negative consequences due to the proliferation of MEV:
Transaction costs are high. As mentioned previously, depending on the structure of transaction fees on a given blockchain, priority gas auctions (essentially public auctions where searchers repeatedly submit successively higher bids for the same transaction based on their observation of competing bids) can push the average user higher transaction fees. This resulted in unpredictable spikes in fees for ordinary transactions, significantly reducing quality of life, and preventing undercapitalized participants from sending any transactions at all.
Internet spam. In contrast, if transaction fees are unusually low, scaling may be too slow, or there is no computational complexity at all, then searchers will be incentivized to spam the network with large numbers of low-value transactions in order to seize MEV opportunities as soon as they appear. . Even if only a fraction of these opportunities materialize for any given searcher, underpricing a deal can result in a net profit. We observe this in practice with several blockchains such as Polygon and Solana. Similar to the priority gas auction, this also reduces the quality of life for the average user. In addition to facing high transaction fees, non-searchers simply cannot confirm their transactions with any reasonable probability because they are simply flooded with the amount of spam. .
Extract preemption. Finally, some forms of MEV purely extract value from users and provide zero benefit to the broader crypto economy. A simple example is the existence of a sandwich attack, which is a pure value transfer from the user to the party capturing the MEV; it should be clear that no entity other than the direct MEV beneficiary can benefit from the existence of the sandwich attack. More generally, almost all forms of front-running are purely extractive and reduce the quality of life of end users by increasing costs and unpredictability.
Therefore, the net effect of MEV on the average user is the sum of a large number of different factors, and it is often unclear whether it is positive or negative. As we will see shortly, different systems have been proposed that attempt to shift this calculation in the direction of net user gain.
Innovation in MEV Management
Over time, blockchain developers began to realize the complexity of MEV and its integral part in modern cryptoeconomic systems. Accordingly, they attempt to reorganize blockchain architecture and incentive systems to mitigate the negative impacts of MEV while retaining or amplifying the positive impacts. These attempts mainly fall into two categories:
Distribute MEV equally among block producers to avoid centralization risks while reaping the network security benefits of MEV extraction
Mitigating the negative impact of MEV on ordinary users by reducing pure extracted MEV and/or distributing MEV profits to the blockchain ecosystem
These strategies have been tried at the infrastructure layer as well as the protocol or application layer. For example, the implementation of EIP-1559 was an architectural change designed to mitigate the negative impact of priority gas auctions on ordinary users, but did little to change the distribution of MEV profits among block proposers. In contrast, Flashbots-style transaction ordering privilege auctions allow block producers to take advantage of a competitive search market, providing an effective lower bound on their MEV extraction efficiency, thereby narrowing the gap between the worst and best block producers in terms of MEV extraction. gap, but does nothing to prevent MEV extraction. Below, we'll cover some of the newer systems or proposed changes and their relative advantages and disadvantages.
Fair sorting
Naively, the easiest way to eliminate transaction front-running is to implement a first-in-first-out rule for transaction processing. This is easily accomplished if a single centralized party has the power to order all transactions; in this case, there is a clear order of arrival, and front-running transactions is virtually impossible as long as the centralized party can be trusted. This is currently the case for Arbitrum One, for example, an optimistic rollup on top of the Ethereum mainnet that has a single-permission full node run by Offchain Labs with total transaction ordering authority. (Note that the use of a sequencer is an optional part of Arbitrum's Rollup technology, which allows for near-instant confirmation of transactions.) However, centralizing transaction ordering to a single sequencer naturally exposes all users to malicious intent from that sequencer. activities, therefore, an eventual move to a decentralized model is desirable.
However, in a decentralized environment where thousands of nodes may receive transactions at different times, achieving a precise concept of fair arrival order is not trivial. Some progress in this direction is made in "Ordered Fairness for Byzantine Consensus" by Kelkar et al. (2020). It proposes a formal definition of "fair ordering" and a series of protocols, called Aequitas, which provide various guarantees of fair ordering. At a very high level, these protocols try to ensure that if many nodes receive transaction A before they receive transaction B, then the resulting ordering should place transaction A before transaction B. Arbitrum One plans to eventually implement such a fair ordering protocol with the help of a decentralized network of Chainlink oracles.
Over the next few years we will see further developments in fair ordering algorithms being justified, and the practical use of these consensus protocols by blockchains such as Arbitrum One significantly reducing the severity of withdrawal transactions in some venues. However, it is worth noting that relying on the FIFO paradigm is not without its drawbacks:
Latency advantage. Participants with the lowest node latency will be able to extract more MEV than those without nodes. This favors well-capitalized entities that are able to put resources near nodes and establish fast network connections. Generally speaking, differences in network latency systematically disadvantage less-connected regions of the world, which are also the regions most likely to be starved of economic resources.
Internet spam. To increase the likelihood that their transactions will be broadcast through the network as quickly as possible, users, especially MEV seekers, are strongly incentivized to spam the network with the same transactions, sending them repeatedly to many different endpoints and significantly increasing the average user's single Transaction possibilities. Transactions will be dropped or delayed.
Intermediary between users and sequencers. Depending on how users typically send transactions to the orderer (or a decentralized oracle network for fair ordering, etc.), the intermediary itself can be a source of risk. For example, if a user sends transactions to an Arbitrum-based blockchain via RPC, these RPCs can in principle reorder the transactions and extract the MEV before passing them to the sequencer.
Ultimately, "fair ranking" is only fair relative to a specific set of priorities; ultimately, the implementation of the current proposal can simply be thought of as a set of alternative trade-offs relative to other MEV economies.
N block sorting right auction
Instead of relying on a predetermined set of entities to order transactions (e.g., the decentralized Chainlink network that enables fair ordering), an alternative is that the ability to arbitrarily reorder transactions within a contiguous window of N blocks could be provided by Block Producer Auction. This mechanism creates a competitive market for MEV withdrawal rights while ensuring users are guaranteed that their transactions will only be delayed by a maximum of ~N blocks. The most famous implementation of this strategy is Optimism (Optimism Rollup on the Ethereum mainnet), which calls these auctions "MEVA" (MEV auctions) and aims to use MEVA revenue to fund the development of public goods.
It is useful to analyze the impact of MEVA from the perspective of individual beneficiaries:
In principle, block producers should be able to capture most of the value through a bidding process for transaction ordering rights. However, their short-term profits may be reduced because blockchains require a small portion of the auction proceeds to be diverted to fund public goods. This reduction may be partially or fully mitigated by the searcher's ability to capture more total MEV.
The introduction of MEVA will greatly impact searchers; as the difficulty of extracting multi-block MEV increases, total profits for searchers may increase, but the distribution of these incomes may become very uneven, with the vast majority of income going to the most skilled of searchers.
For example, suppose a searcher wins the auction and becomes the orderer of N blocks. Searchers will extract as much MEV as they can based on their expertise; however, it is possible that there may be remaining MEV in blocks that they have not yet extracted. Therefore, they can sell the rights to extract the remaining MEVs to other searchers, or expand their capabilities to more fully extract each type of MEV. However, auctioning the right to extract MEV is logistically extremely complicated when the searchers themselves don't know what else is in the block (because if they knew, they would extract it themselves). Therefore, the introduction of MEVA will accelerate the formation of a small number of monomer MEV groups that are good at extracting every form of MEV and consistently win N block auctions.
This may be in contrast to Flashbots sealed envelope auctions, which only allow searchers to bid for the right to reorder optional deal packages. Although bundles may in principle contain unextracted MEVs, the relative targeting of bundle submissions means that searchers of different types of MEVs have relatively less incentive to combine into a single entity than in settings with multi-block MEVAs.
Ordinary users receive slight long-term benefits from funding a public good that benefits all blockchain users. However, the explicit introduction of a competitive market for the extraction of multi-block MEV and the overall centralization of MEV extraction may result in higher levels of short-term losses.
Interestingly, due to the "winner's curse" of the auction, as mentioned in the previous section, participants have different private signals. If all transaction ordering permissions must be obtained through MEVA, then the degree of complex MEV extraction may be limited to a relatively low level.
As with fair sorting, MEVA appears to be another trade-off. Blockchain users benefit from the transfer of a portion of MEV revenue to public goods funds; however, this comes at the expense of centralization of MEV withdrawals, resulting in higher levels of overall MEV withdrawals. Additionally, there may be a small trade-off in cybersecurity commensurate with the extent of revenue from public goods funding withdrawals, although this may be offset by higher MEV total revenue. Whether the MEVA model of MEV management proves to be more attractive than other models remains to be seen in practice.
Proposer/blockbuilder separation
A natural extension to the optional use of auctions to democratize MEV capture across block producers would be between block proposers (the entities that assemble complete blocks) and block builders (that certify the validity of assembled blocks. Currently , in most blockchains, block proposers are also block builders, which essentially gives them the ability to extract MEV from blocks, even though many may voluntarily choose to do so through an auction-based mechanism such as MEV-Geth Earn MEV revenue. In this proposed scheme, known as Proposer/Block Builder Separation (PBS), the block producer (alternatively, the block builder or the prover) must accept the highest bid from the block builder. Builders may attempt to extract the MEV themselves; alternatively, they may accept smaller transaction packages from seekers and assemble them into a complete block.
At a very high level, one might think of PBS as roughly akin to requiring all block producers to run (some version of) a Flashbots auction, where they must accept the highest bid, and the bundle contains the transaction value of the entire block. Essentially, it's a souped-up version of Flashbots Auction. In this sense, PBS may further democratize MEV extraction, allowing small validators to maintain a certain competitiveness. However, in the presence of substantial economies of scale and complex probabilistic MEV diffusion, the dynamics favoring block producer centralization are only suppressed rather than eliminated.
Within the scope of PBS, several different implementations have been proposed, as described in a recent Flashbots article Why Building the Most Profitable Blocks Matters. Broadly speaking, these implementations take different approaches to the issue of block builder privacy, which is a key obstacle to the successful implementation of PBS. Essentially, if the block producer selected for a given block is able to observe what the block builder submitted and submit their own block based on that information, they can simply copy the contents of the highest bidder's block, but arbitrarily bid. High fees capture all MEV in the process and ultimately inhibit the construction of profitable blocks. Solutions fall into three main categories:
Transaction confusion. Cryptographic techniques can be applied to obfuscate the contents of proposed blocks from block producers. For example, transactions and bundles can be compiled by block builders within secure enclaves such as Intel SGX. In theory, since the use of secure enclaves can also be cryptographically verified, this would prevent block producers from observing transactions. (However, Intel SGX is known to be particularly vulnerable to a variety of attacks.)
Alternatively, more straightforward encryption schemes can be used to protect the privacy of user transactions, such as timelock encryption (decryption requires the passage of time) or threshold encryption (decryption requires a certain percentage of the block producer's private key). Unfortunately, the former results in poor composability and user experience, while the latter is susceptible to collusion by multiple block producers.
Pre-commitment to proposed blocks. Rather than a cryptographic hurdle, block producers can be made to pre-submit a specific set of block headers (each block header corresponding to the block builder's proposal) before the block builder is willing to publish the full block content. If a block producer proves that a block header is not in a block they previously committed to, they will be subject to the slashing rules. Therefore, block producers cannot observe the blocks that have been constructed and then use that information to resubmit bids. Vitalik describes the proposal in more detail in Proposer/Blockbuilder Separation Friendly Fee Market Design.
While its permissionless nature is elegant, this solution requires careful consideration of its design attributes in order to effectively protect against attack vectors. For example, a malicious block builder might submit a high-fee bundle to a block producer that they refuse to publish after committing to it, which could happen if the block producer has any limits on the number of blocks they will submit. Crowding out legitimate block proposals. Slashing mechanisms also require careful calculation of potential failure modes; if not designed properly, attack vectors could conceivably remain open to block producers, either individually or in collusion.
Permissive relaying. If people are willing to accept the introduction of trusted parties into the system - which may be an intermediate step in the transition to a fully decentralized PBS - then implementation will become simpler. Just as the Flashbots auction currently requires bundles to be submitted to a trusted relay (assuming that users’ bundles are not stolen), introducing a trusted relay between block builders and block producers ensures that the block builder’s Proposals are not leaked to block producers. A concrete implementation of PBS in this regard is MEV-Boost from the Flashbots research group.
Beyond the technical details of specific PBS systems, there is an unexpected benefit that deserves special mention. Implementing PBS at the base layer means that block producers may be able to credibly claim to be completely neutral with regard to the inclusion of user transactions, especially if they do not participate in the open market for MEV extraction. It is possible that some forms of MEV could be classified as illegal by regulators, much in the same way that preempting customer orders by brokers in traditional finance is considered a potential breach of fiduciary duty. While this concern remains largely theoretical, it’s worth noting that one of the largest Ethereum mining pools, Ethermine, stopped accepting DEX front-running packages half a year ago due to “compliance.” If this concern continues, PBS may allow centralized exchanges to continue to offer staking services at competitive prices, as they can still generate revenue from all forms of MEV without being affected by potential enforcement actions.
Protocol level reduction for MEV opportunities
Some MEV opportunities may be understood as flaws in user behavior or protocol design that allow MEV to be extracted purely as a result of normal user-protocol interaction. These MEV opportunities may disappear over time as new protocols emerge that prevent their creation.
For example, imbalances in liquidity pools are often caused by users performing large atomic swaps within a single pool. In principle, users could spread trades across multiple DEXs to reduce the overall price impact and execute trades at lower costs; however, doing this manually is slow and cumbersome. Therefore, DEX aggregators such as 1inch, ParaSwap and Rango, which determine the best path for transaction routing in order to provide users with superior transaction execution across many different DEXs (and in Rango's case, also across multiple chains), become has become more and more popular. Ultimately, as more trading volume moves to these aggregators, the space for available arbitrage opportunities will decrease accordingly. (That said, it’s worth noting that individual routing trades for larger orders through aggregators can still be sandwiched, and arbitrage between aggregated and non-aggregated DEXs is still possible.)
Similarly, the introduction of centralized liquidity on Uniswap V3 led to the phenomenon of “just-in-time (JIT) liquidity”, where searchers insert a very narrow range of deep liquidity immediately before users trade, and then immediately withdraw the liquidity, thus gaining a lot A portion of the associated transaction fees. While this results in lower price slippage for executing orders, it greatly inhibits the provision of private liquidity, and in the most pathological case, an equilibrium may be reached where all liquidity is JIT and there is no Any passive liquidity forces traders to request quotes from JIT liquidity providers. This can be prevented by introducing protocol-level mechanisms that make JIT liquidity essentially impossible, such as the "time-to-live" requirement proposed by CrocSwap, which imposes a lower limit on how quickly users can mint and subsequently redeem liquidity positions.
Other protocols have successfully reduced user sensitivity to MEV by adopting the general concept of a previously "open" process and increasing the level of "privacy" so that external actors can no longer interfere with the extraction of MEV. For example, CowSwap performs regular batches of off-chain limit order matching between user-submitted orders. Since orders are directly matched, these trades are unlikely to be subject to a sandwich attack since the execution price does not interact with external factors such as liquidity pool balances. By limiting the scope of exchange interactions to direct interactions between buyers and sellers, transactions are protected from typical forms of front-running.
Arguably, another interesting application of scope restrictions is demonstrated by the KeeperDAO system, which aims to establish permissioned channels between specific searchers (called Keepers) and platforms that generate MEV opportunities, such as DEXs where users’ unbalanced exchange generates arbitrage Chance. For example, Keepers' addresses might be whitelisted to allow them to exchange at lower fees; in turn, we could simulate the system for other types of protocols. Keepers will then be able to monetize MEV opportunities before non-Keeper seekers do, and since they don't participate in the auction with a larger class of non-Keeper seekers, they will also be able to capture more MEV without necessarily being squeezed to the extreme Low profit margins. In return for entering this "walled garden" of MEV extraction, Keepers then give up a portion of their profits, shared with KeeperDAO and the MEV generation protocol.
In addition to KeeperDAO, other protocols have also proposed similar MEV sharing solutions, such as bloXroute's BackRunMe, which can protect users from being preempted while providing earlier reverse opportunities for specific searchers. Overall, these arrangements bear some resemblance to the practice of Pay for Order Flow (PFOF) in traditional finance, with privileged searchers benefiting from the protection of the “toxic flow” of the broader searcher-block producer ecosystem, leaving them The profits drop to near zero much like how market makers avoid the toxic flows of highly informed HFT trades, and in both cases users experience lower trade execution costs. The MEV ecosystem created by these protocols shifts profits from block producers (who would otherwise be able to asymptotically capture over 99% of the value of these opportunities) to the rest of the cryptoeconomic ecosystem. Reducing MEV revenue for unprivileged searchers and block producers in this way may mitigate MEV-based centralization while modestly reducing the overall degree of network security.
As we have seen, there is strong interest from both users and developers in building MEV-resistant blockchain ecosystems at the protocol level. Generally speaking, if MEV opportunities are created by transactions that "leave money on the table", we should expect users to strongly prefer protocols that provide greater value by allowing them to easily recoup at least some of the inefficiencies (which would otherwise considered MEV). As the cryptoeconomic system matures, MEV searchers and block producers should expect the “easy revenue” from correctable inefficiencies to diminish over time. This may push searchers with significant investments in domain-specific expertise and hardware toward increasingly sophisticated forms of MEV.
Probabilistic MEV extraction
Currently, most MEVs are captured in very "low-risk" ways. For example, atomic arbitrage trades or sandwich packages submitted through the Flashbots auction are completely risk-free; either they are accepted, in which case they are profitable, or they are not accepted, in which case the submitter The situation is no worse than before. However, as MEV competition becomes increasingly fierce, whether due to more and more searchers continuing to flood into the fixed space of MEV opportunities, or due to users and protocols constantly trying to eliminate simple MEV opportunities and capture the value themselves, Searchers may increasingly turn to sophisticated MEV strategies.
Similar to quantitative strategies in modern traditional finance, if MEV searchers increase their willingness to store and manage risk, they will have access to a wider range of MEV opportunities. That is, if the associated risks are properly managed and diversified, searchers will be able to extract value through transaction reordering, which is not necessarily profitable, but can be expected to be.
Although seemingly abstract, a simple form of risk warehousing is liquidity sniping, where searchers race to purchase an asset as soon as a liquidity pool is created. Typically, tokens purchased by liquidity snipers are not immediately offloaded in the same block, but sold within minutes to hours. We make the following comments:
Although superficially similar to a “simple robot”, we believe that liquidity sniping still falls within the category of MEV. Simple evidence is that searchers are often willing to pay block producers more to have their buy orders included as soon as liquidity is added. Expressions of preferences for ordering transactions within a block clearly indicate the presence of MEV.
Profits from liquidity snipers are not guaranteed. Depending on the pre-existing token allocation, the price may be lower than its entry price. However, under favorable market conditions, most new projects are likely to see significant price increases following increased liquidity. Therefore, searchers are taking inventory risk even though their trades have positive expected value.
Recall that the market maker's role is characterized by accepting inventory risk in exchange for a profit on the bid-ask spread. In low-latency, high-TPS blockchains that support traditional market-making strategies on a central limit order book, we may see the roles of market makers and block producers merge, as transaction ordering permissions will allow them to apply complex management strategy and its market-making strategy for inventory risk. (This may be one of the multiple motivations for Jump Capital’s heavy investment in the Solana ecosystem, providing roughly 20% of staked SOL.)
In a similar way, we might expect MEV seekers to also start spreading their risk across the time dimension, much in the same way that modern high-frequency trading firms execute hundreds of thousands of trades per day. Not all of these trades are profitable, but with so many trades being made, the law of large numbers ensures that they remain profitable on timescales of hours or days. There is no particular reason why the transaction reordering privilege should only result in MEV withdrawal opportunities that are profitable over the timeframe of multiple transactions or within a single block and therefore are effectively risk-free for seekers ; Therefore, it is not surprising that searcher strategies are combined with the sophisticated quantitative techniques of modern finance, which allow the extraction of low-deterministic forms of MEV, especially on new blockchains with low transaction fees and fast confirmation times.
In fact, one can already imagine how existing MEV extraction can be extended to probabilistic settings. Currently, sandwich attacks can run both front- and back-run their target transactions; by excluding any other intervening transactions between the two halves of the sandwich, sandwich attackers minimize the risk (e.g., price drops before they can sell inventory). However, this requires placing exactly two separate transactions, each of which has an associated swap fee (0.3% in the case of Uniswap). Recall that in a liquidity pool with two paired assets, A and B, the transaction is "symmetric" because buying A is roughly equivalent to selling B and vice versa. Consider the following transaction sequence with two independent sandwich target transactions:
Sandwich attacker buys A
Target Transaction #1 Buy A
Sandwich attacker swaps A for B
Target Transaction #2 Buy B
Sandwich attacker sells B
In the above example, the sandwich attacker only paid 3 swap fees, but if the sandwich attacker sandwiched the two target transactions, they would have to pay 4 swap fees. Since the swap fee is 0.3% of the entire trade size, being able to take some inventory risk between target trades #1 and #2 can lead to significantly higher profits (an additional difference in the return distribution of trades with a higher expected value) . However, a sandwich attacker must take care to properly manage their inventory risk; for example, if target transaction #1 was actually an arbitrage exploit of A below the market price, then it is unlikely that the sandwich attacker would be able to profitably exit the sandwich in the opposite direction (i.e. the sandwich trade itself may carry information about future price movements). Depending on their specific setup, probabilistic MEV searchers may also impose limits on the position size of all open trades to prevent overexposure to the idiosyncratic risks of any single asset.
The final form of probabilistic MEV arises when considering MEV across different domains, as discussed by Obadia et al. in Unity is Strength: Formalizing Maximum Extractable Value Across Domains (2021). For a searcher that is not itself a block producer for all relevant domains, the extraction of cross-domain MEV (e.g., arbitrage across two different blockchains) necessarily involves some degree of uncertainty about the relative ordering or confirmation status of its transactions sex. For example, one could imagine a purchase confirmation on one blockchain, while an offsetting sale on another blockchain cannot be processed, leaving the searcher holding inventory, potentially at a loss. Nonetheless, those searchers who can competently manage these risks will be able to make the most of MEV extraction in an increasingly cross-chain world. (It is worth noting, however, that cross-chain MEV profitability may be a significant driver of overall cryptoeconomic centralization, as validators, nodes, and miners from multiple blockchains or bridges come together under a single searcher umbrella.) Allows extremely efficient, low-risk extraction of inter- and intra-chain MEVs.)
A word of warning to would-be MEV seekers: since financial markets are adversarial, executing on probabilistic MEV may expose seekers to a very large potential attack surface, depending on the difficulty of deriving the underlying strategy from on-chain data. It is conceivable to be able to "lure" the algorithm into certain unfavorable trades, just as "toxic" liquidity pools are often deployed in the hope that overly naive liquidity snipers will buy their (unsellable) tokens.
in conclusion
From the above discussion it can be seen that MEV is hugely complex and out of necessity this article only briefly touches on the gist of the situation. However, there is considerable scope for more detailed research on MEV, such as:
More comprehensive, cross-chain, quantitative analysis of MEV extraction
Theoretical and empirical research on probabilistic MEV and its similarities and differences with HFT in traditional finance
Apply more complex auction mechanisms to capture MEVs and distribute them to different ecosystem participants
Future work in these directions is eagerly anticipated.
I'll end this article with a brief digression on my personal views on MEV. While this may border on meaningless abstraction or speculation, I have come to believe that the “fight” surrounding MEV – its extraction, beneficiaries, and mitigations – is how cryptoeconomic networks are inherently subject to competing forces A perfect micro-example created to continuously promote the development of excellent technology. Consider, for example, how the complexity of running transactions has directly driven the development of different blockchain architectures and protocols designed to capture more value for users by internalizing the profits that would have been the leader. Likewise, the general adversarial nature of cryptoeconomic systems, whose permissionless and open nature allows any competent operator to extract value from flaws, forces these systems to prioritize security and robustness from the outset.
This is a highly desirable quality for infrastructure that may one day form the basis for the development of a new financial system. Compare, for example, traditional banks’ bulky and clunky technology, characterized by broken websites, outdated SMS verification practices, susceptibility to social engineering, and a myriad of pervasive attack vectors. This is the end result of a system that is inherently ill-suited to the brutally confrontational nature of a globalized world. Although cryptoeconomic systems may take a while to mature, they will be more durable, in part because the only survivors are those who have successfully adapted to the adversarial environment from the beginning of creation.
For these reasons and more, I find MEV irresistibly attractive. It’s a wonderful game of technical sophistication and intelligence, and as participants redouble their efforts time and time again, the entire cryptoeconomic ecosystem ultimately becomes stronger. It will be a great privilege to watch this drama unfold over the next few years.
**This article only represents the views of the original author and does not constitute any investment opinions or recommendations.
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