Decentralizing the Execution Layer: Technical Benefits and Legal Considerations

The cryptocurrency regulatory landscape continues to evolve, with recent investigations seeking to establish an alarming precedent: prosecuting data frontend for acting as securities brokers. Traditionally, accusations of acting as unlicensed brokers are associated with financial platforms and operators. However, the SEC now argues that due to their role and influence in crypto transactions, crypto frontends are financial platforms.

This focus on frontends should draw attention to another related area of the blockchain stack: the data provider of that frontend. Today’s blockchain applications rely on a trusted execution layer, and many, if not most, depend on centralized data providers. This centralization, long recognized as a potential point of failure, possibly carries a similar regulatory risk as frontends.

Recent developments, such as the SEC’s investigation into Consensys, have sharpened these concerns. How can we reimagine our relationship with decentralized data to avoid regulatory capture, regardless of the outcome of this SEC investigation?

RPC Providers: More Than Just Information Conduits

RPC providers are an essential component of modern blockchain infrastructure. They serve as a crucial interface, allowing applications to communicate with the blockchain and access vital information such as block data, transaction details, and account balances.

However, in the context of MEV protection, RPC providers act as both information providers and intermediaries for transaction ordering — similar to conflicts of interest that brokers have regulations in place to avoid. Fortunately, it’s possible to decouple these roles and introduce more decentralization into the execution layer.

Rather than focusing solely on the potential legal implications of this case, it’s perhaps more constructive to consider how changes to blockchain infrastructure — particularly at the execution layer — could address these underlying issues while enhancing the overall ecosystem.

Decentralizing the Execution Layer with Role Separation

One promising approach to decentralizing the execution layer is the separation of roles within blockchain systems. This concept involves distributing different responsibilities and functions across separate components or entities rather than centralizing them all together.

Ethereum provides a prime example of this approach with the proposer-builder separation (PBS) in its roadmap. By dividing the responsibilities of block building and block proposing, Ethereum aims to mitigate risks associated with Maximal Extractable Value (MEV) while enhancing the network’s overall fairness and efficiency.

While current innovations in the MEV world provide proofs against sandwiching or front-running, they don’t protect against potential backfilling issues. We can eliminate this vulnerability by sourcing data from an entity separate from the transaction orderer.

Furthermore, role separation helps prevent malicious rerouting attacks at the infrastructure level to enhance overall system security. This approach not only addresses potential arbitrage opportunities but also strengthens the integrity of the entire transaction process.

Two Critical Role Separations

Building on the Ethereum PBS principle, we recognize two critical separations to be implemented at the execution layer we call Read/Write Separation (RWS):

1) Separating Data Providers From Transaction Orderers

Currently, MEV protection solutions rely on the same entity to provide data (like current state and price information) and to order and submit transactions. Doing so creates a potential conflict of interest, as the entity providing information about the state of the blockchain could manipulate this information to its advantage when ordering transactions.

2) Separating State Root Hash Providers From Proof Providers

In systems employing light clients or zero-knowledge proofs, it’s crucial to separate the entity that provides the state root hash (a cryptographic summary of the blockchain’s current state) from the entity that provides proof about the state.

Such separation enhances the trustlessness of the system, as it prevents a single entity from controlling both the state and proof generation. User concerns around data manipulation and false proofs make this separation necessary for blockchain systems to gain widespread adoption.

Addressing Regulatory Concerns and Beyond

In theory, separating the roles of data provider and transaction facilitator addresses the risks of a regulatory complaint similar to the one surrounding Consensys acting as a broker-dealer without proper registration.

Decentralizing the execution layer through thoughtful role separation can align blockchain systems more closely with regulatory expectations while fostering innovation. This approach offers several key benefits:

• Eliminates single points of failure, enhancing security
• Improves auditability and transparency of operations
• Reduces conflicts of interest through role separation
• Aligns infrastructure with blockchain’s decentralized principles

Decentralized systems inherently address many regulatory concerns about centralized financial and data infrastructures. By decentralizing the execution layer, we can proactively build trustless blockchain networks that align with both regulatory standards and the technology’s core principles.

Moreover, by proactively addressing these issues through technical means, the industry can help shape the regulatory conversation. Instead of waiting for regulations to be imposed from outside, we can demonstrate how blockchain technology, when properly implemented, can achieve many of the goals that regulators seek to enforce.

Stateless’ Approach to Decentralizing the Execution Layer

Stateless has developed an innovative approach to blockchain infrastructure that directly addresses the need for role separation. The solution is designed to enhance security, improve performance, and maintain the decentralized ethos of blockchain technology.

At the core of Stateless’ offering is a middleware layer that enables verifiable, decentralized data operations. This solution comprises three key components:

1. Verifiable APIs: These allow developers to securely access and interact with blockchain data through both public and private endpoints, with real-time verification capabilities.
2. Stateless Verification Standard: A robust framework ensuring that data interactions are deterministic, auditable, and verifiable across decentralized networks.
3. Risk Management Protocol: This innovative protocol manages risk through permissionless dispute resolution and data integrity verification.

Developers can already implement the separation of read and write operations using existing tools. Meanwhile, Stateless is making significant progress in separating state root provision and proof generation, building on draft Ethereum Improvement Proposals (EIPs) to advance this crucial aspect of blockchain infrastructure.

Closing Thoughts

As the blockchain ecosystem evolves, the importance of decentralizing critical infrastructure components becomes increasingly apparent. This decentralization is key to realizing the full potential of blockchain technology.

Decentralizing the execution layer, particularly by separating the read and write operations, represents a significant step forward. It addresses both technical vulnerabilities and potential regulatory concerns, paving the way for more robust and compliant blockchain networks.

The challenges highlighted by recent regulatory scrutiny serve not as obstacles but as catalysts for innovation. They push the industry to proactively develop solutions that meet technical and regulatory requirements without compromising blockchain technology’s transformative potential.