Feb 10
Maximum Extractable Value (MEV) on Ethereum
Article by Sixte C.
Overview
Behind the complexities of blockchain technology are hiding many concerning issues unknown to the general public. The one we are going to cover today is the Miner-Extractable Value (MEV). On the Ethereum blockchain, miners have complete freedom over the order of transactions in each block mined and they leverage this position to earn extra revenue.
In more detail, this concept refers to the extraction of value from Ethereum users by reordering, inserting and censoring transactions within blocks. Miners can take advantage of their ability to include, exclude, and order the block transactions by including the transactions (waiting on the mempool) that propose to pay higher fees. Hence, miners can use this technique to raise additional profit from the network. It was not originally planned by the protocol, which does not require transactions to be ordered according to fees. Such illegitimate stream of revenue is called MEV.
On the other side of the transaction, networks participants looking for MEV opportunities are called searchers. They run algorithmic programs to find situations where paying a higher fee to the miner would be profitable.
Example 1
A searcher finds an arbitrage opportunity between two DEXs. He uses an off-chain communication channel to ask a miner to process his transaction for a very large fee in a fast and risk-free way. To do so, the searcher does not settle the gas fee payment on the blockchain network but instead on an external specialized platform such as Flashbots. Then, the searcher shares his transaction hash (transaction ID) with the miner who processes it ahead of everybody else. On the public ledger the gas fee is 0, but in reality the searcher paid a gas fee off the books. The searcher saves the fees he would have paid if his transaction would have been rejected and the miner receives a higher return than on-chain. It is important to note that the searcher would never pay a fee superior to the arbitrage opportunity.
Ethereum.org gave us an example of such activity [1]. The searcher exploited an arbitrage opportunity on two DEXs and paid a total of 0 gas fees. He earned an amount of approximately 45 Ether which must be superior to the unknown fee amount paid off-chain to the miner.
Example 2
Another example would be a searcher using his bots to ‘sandwich trade’ a trader on DEXs. His bots identify an order large enough to increase the price of the asset. He sets a higher gas fee than the trader’s order to see his transaction processed before him. Once the trader’s position is closed and the price has gone up, the searcher sells the token. The searcher has sandwiched the trader. Sandwich trading is happening mostly on DEXs because transactions are visible for a time before being completed.
Example 3
All blockchain related ecosystems born since Bitcoin are intimately interlinked. In fact, NFTs are not immune to the MEV’s sphere of influence. Searchers can also pay higher fees or run complex protocols to be the first to buy their valuable NFTs. For example, @0x650d on twitter explains in a thread ‘why’ he invested $7 million to buy every CryptoPunk sold at the floor price. What’s really interesting is ‘how’, as he used a protocol called Mining DAO to process all the transactions secretly and all at once.
How could Ethereum solve MEV’s undesirable side effects?
First, let’s take a look at Ethereum network upgrades. The EIP-1559 (fee-burning deflationary measure launched in mid-2021) is aimed at improving the predictability of fees at the expense of the miners’ rewards. Reducing the miners’ profit might incentivize them to extract more from the network through MEV to compensate.
Then, there’s the merge impact on MEV. We could argue that the validators with the most stakes will have more MEV opportunities, and the richest will get richer. In a proof of stake blockchain it could lead to higher centralization by creating abnormally large validators. For example, AVAX, a PoS blockchain, saw one of its validators exploiting by himself every single existing arbitrage opportunity on DEXs [2]. However, it was enough for the project to slightly change its consensus mechanism and the threat was gone. It shows that once the merge is effective, Ethereum won’t be completely helpless in such situations. We could even claim that, if the transition to PoS increases MEV revenue, it will foster decentralization . According to researchers from Flashbots, after the merge, validators will earn higher returns [4]. More network participants will be incentivized to become validators and decentralization will increase.
According to Phil Daian, researcher at Ethereum, MEV is inevitable. Nevertheless, specific MEV measures have already been implemented to reduce its negative effects. On the miners’ side for example, Ethermine, the biggest Ethereum mining pool (20% of Ethereum hash power), is redistributing all profit through MEV evenly to all miners in the pool.
On the developers’ side, the best proposal so far might be protocols that order transactions fairly. For example, Chainlink labs developed the Fair sequencing service (FSS) [3]. It decentralizes the process of transaction ordering. Transactions are sent to a contract. An oracle ingests the transactions and then the oracle nodes order the transactions in terms of time of arrival (not gas fees paid). Finally, the oracle nodes send back the ordered transactions to the contract. In a way, it can be compared to the proof of history mechanism of Solana.
Finally, MEV did lead to network congestions and higher gas prices beginning of 2021. However, the searchers’ bots intensive exploitation of MEV opportunities resulted in gas price auctions going off chain and greatly lowered MEV impact over gas prices for regular network participants. Moreover, by exploiting the inefficiencies of the market, MEV activity is fixing them. On DEXs for example, thanks to intense arbitrage executed by bots, the users get the fairest price possible on a given platform. Therefore, to some extent MEV is desirable and makes the market more efficient.
Does it exist on other blockchains?
MEV exists on all blockchains where actors securing the network have the ability to order transactions the way they want. Therefore, we can find MEV related activities on proof of work blockchain like Bitcoin’s but also on proof of stake blockchains like BSC. In fact, while MEV is mostly documented on the Ethereum blockchain, searchers are now exploring the Binance Smart Chain to take advantage of the same MEV opportunities with less competition.
Conclusion: Do we have to worry?
To this day miners have extracted $585 million dollars in MEV from the networks according to flashbot.net.
To conclude, we would say that the greatest threat has been mentioned by the Ethereum foundation as the following: ‘If the MEV available in a block significantly exceeds the standard block reward, miners may be incentivized to remine blocks and capture the MEV for themselves, causing blockchain re-organization and consensus instability.’ We would argue that in practice it is highly unlikely to happen as the miners would need to take the following obstacles into account:
- To change past transactions requires a 51% attack and an abnormal amount of computing power that does not currently exist with nowadays technology. The more ancient blocks are, the more difficult it would be to change them.
- The cost of communication for 51% of the machine to control the network would highly unincentivized the attackers (https://www.crypto51.app)
- If successful, the attack would result in a complete loss of trust in the systemand the system would collapse. So are all revenues collected from the attack greater than all potential future revenues?
[1] A. Agarwal. (February 2022). Miner Extractable Value (MEV). Ethereum organisation.
[2] Timothy Craig (October 2021) MEV and Proof-of-Stake With Eden Network’s Caleb Sheridan. Crypto Briefing.
[3] Chainlink (March 2021). What Is Miner-Extractable Value (MEV)?
[4] GitHub. Flashbots.
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