Blockchain-generated profits known as “miner extractable value” have become a hotly debated topic among the Ethereum community in the run-up to today’s London hard fork, even being discussed at a recent U.S. Senate Committee on Banking, Housing and Urban Affairs hearing on cryptocurrencies.
At that hearing, law professor Angela Walch said MEV was anathema to the most basic conceptual underpinnings of cryptocurrency.
“There are huge amounts of value that miners are exploiting in this way right now, and it is seen as a critical, critical issue to the success of cryptocurrencies and any claims that it has to be immutable, secure or to lack intermediaries,” Walch said.
What is miner extractable value?
MEV is the profit a block producer such as a miner (or a validator, when Ethereum moves to a proof-of-stake consensus) can make or “extract” from users by deliberately rearranging the order of transactions within a block being added to a blockchain.
Walch explained that in many of the proof-of-work systems, such as Bitcoin and Ethereum, there were large mining pools — computers involved contributing power to verify transactions — that entrusted mining pool operators with the power to select transactions that would be recorded on the ledger and the order in which they would appear.
Miners choose transactions from a public mempool — a queue in which every user’s transaction awaits its turn to be added to the blockchain — and can exploit their role to front-run transactions by choosing a transaction before or after another for their own benefit.
For example, an investor could notice mispricing in a Uniswap pool for a token pair and execute an arbitrage trade, expecting to collect the difference. However, a block producer could see the trade and front-run the transaction by inserting its own trade ahead of that of the investor. Because transactions are executed serially inside one block, the block producer’s trade would take place before that of the investor, capturing the full arbitrage opportunity, leaving the investor’s transaction either to fail or with no profit left to capture.
“It is widely considered a negative consequence of the privileged position that miners have in the transaction ordering process,” Adam Gagol, co-founder of Aleph Zero, a proof-of-stake public blockchain with private smart contracts, told Forkast.News in an email.
Miners are not alone in being able to take advantage of MEV. Blackhat bot developers can also deploy harmful arbitrage strategies to extract MEV, such as front-running or sandwich attacks, which can significantly impact users. More than US$700 million has been extracted through MEV since Jan. 1, 2020, and over US$16 million in the past 30 days, according to MEV-explore.
The MEV threat to Ethereum and DeFi
There are several reasons why MEV poses a threat to the Ethereum network and the decentralized finance ecosystem at large, its critics say.
“Not only does it make DeFi transactions more expensive, but it also gives an additional incentive for miners to rewrite blockchain history — as is the case with time bandit attacks,” Gagol said. “Additionally, it makes mining much more profitable for algorithmically superior miners [who are better able to reorder transactions and earn more MEV]. As such, the entire consensus protocol deviates even further from the original proof-of-work, ‘one CPU, one vote’ rule of Satoshi.”
Alex Stokes, an Ethereum researcher, told Forkast.News that one systemic concern was a situation where MEV was actually greater than the block reward (plus regular fees) because then the next block producer would actually be incentivized to make a competing block on a fork that just replays the block the first block producer made.
“This leads to consensus instability and is something we want to minimize at most costs,” he said.
“MEV, if it is not mitigated, could turn users off from using blockchain technology,” Jeff Lau, a developer at Ethereum Name Service, told Forkast.News. “So it’s important for protocol developers to be aware and build safety into their apps, as well as having software like Flashbots to allow some of the negative externalities to flow off-chain.”
See related article: Ethereum addresses using DeFi soar 65% to over 2.9M
How can the MEV issue be addressed?
Will Ethereum’s London upgrade or transition to proof-of-stake later today solve the MEV issue?
Jerry Brito, an executive director at Coin Center, a non-profit focused on crypto policy issues, who also spoke at the Senate hearing, said: “One of the best solutions is to implement alternative market mechanisms that reduce the advantages of transaction ordering.”
Flashbots, a research and development organization, has been leading efforts to study and mitigate the negative externalities and existential risks posed by MEV to smart-contract blockchains. For example, Flashbots introduced MEV-geth, a sealed-bid block space auction mechanism for communicating transaction order preference that aims to increase the Ethereum network’s stability.
Aleph Zero’s Gagol told Forkast.News that neither the London upgrade, nor Ethereum Improvement Proposal 1559, nor moving to proof-of-stake would solve the MEV problem on Ethereum.
“None of these upgrades change the primary cause of the crisis: miner dominance,” he said.
The ordering of the transactions included in a block is entirely under miners’ control, which means that MEV won’t be fixed until miners no longer have incentives to rewrite chain history, Gagol added.
Aleph Zero’s privacy product, Liminal, seeks to solve the MEV issue by using submarine sends and smart contracts to protect the value of transactions so miners are not able to reorder them for profit.
Ethereum’s London upgrade — which will reduce fees for miners — could also incentivize miners to look for alternative revenue sources such as MEV.
“EIP-1559 is the most important upgrade in the history of Ethereum,” Caleb Sheridan, a core developer at Eden Network, an optional, non-consensus breaking transaction ordering protocol that is designed to minimize MEV in Ethereum, told Forkast.News. “While it solves some of its major problems, like high gas fees and priority gas auctions, it creates others by slashing block producer revenue, which inadvertently incentivizes MEV.”
Eden Network, which evolved from the Archer DAO project and the ARCH token, is designed to be a new transaction network that helps block producers make up lost revenue in exchange for protecting traders against arbitrary transaction reordering — the main source of malicious MEV, Sheridan said.
Built on top of Taichi Network, a private transaction relay infrastructure, Eden Network allows network participants to rent priority slots and have guaranteed placement within Ethereum blocks. It also offers users and traders a private venue to execute transactions outside Ethereum’s public transaction pool. The network launched this week to users, traders and block producers, and is free to use on the Sushi platform.
Asia-based DeFi projects Alpha Finance Labs and Band Protocol, a cross-chain data oracle platform, are also partnering with Eden Network as slot tenants.
“An oracle is updating a price in a DeFi contract, and if you know what that price is going to be, you can make your trade really fast right before the price updates, and then right after the price updates, you can make another trade,” Sheridan said. “And so the sandwiching of oracle price updates and things like that is kind of another form of malicious MEV.
“DeFi networks have been just dealing with it, but in this case, for Band Protocol, when their oracle updates are included in Eden blocks, it means that nobody can arbitrarily reorder them so there’s no MEV possible,” Sheridan added.
Block producers that participate in the Eden network and follow the transaction ordering protocol receive EDEN rewards and act as the core members of EdenDAO. The network projected its launch with at least 30% of the hashrate behind it, and expects to become the second-biggest player in MEV after Flashbots, according to a company statement.
“Some MEV is actually healthy, such as the arbitrageurs who push prices back in line,” Sheridan said. “So rather than trying to block all MEV, the Eden Network captures MEV without harming users or block producers, and redistributes it in a more equitable way to all of the network’s stakeholders. It’s a win-win for everyone.”