The Merge, 0x02, MEV, and the Future of the Protocol
Hello Rocket Poolers! Like many in the Ethereum community, we have been keeping a close eye on The Merge approach and progress. This update will provide some details on what we have been doing to prepare for The Merge.
In general, we don’t expect The Merge to cause much change to Rocket Pool apart from the client node software that we package up with our smart node software. That said, recently we have conducted some research around priority fees and Maximum Extracted Value (MEV).
TLDR
- We are focusing on our Mainnet launch but we are preparing for The Merge
- We have a plan for dealing with The Merge and incorporating priority fees to benefit node operators and rETH holders
- We are in collaboration with Flashbots to explore capturing MEV to benefit node operators and rETH holders
0x02 Credential Prefix
In a post-merge world, proof-of-stake node operators will replace miners and will be responsible for assembling blocks of transactions. As such, node operators will receive priority fees (EIP-1559) paid by Ethereum users.
One surprising development in The Merge approach, is that priority fees will be sent to the Execution Engine (ETH1) client coinbase address rather than the validator account (ETH2). This approach minimises the footprint of change on Ethereum and simplifies consensus but it means dishonest node operators could change their coinbase address to extract a greater proportion of the priority fees than they are entitled to. This practice, if left unchecked, would degrade the competitiveness of rETH against centralised liquid staking tokens.
In response, we engaged The Merge core devs to discuss possible alternatives to the current approach, as it seemed logical to align in-protocol rewards under the validator account. After some constructive discussion we posted an ETH2 Spec change to include an additional withdrawal credential: `0x02`.
We felt the spec change would:
- Ensure the fair distribution of priority fees — correcting an imbalance between decentralised and centralised pools
- Provide added security to node operators
- Support execution client service providers
The spec change would enforce the withdrawal credential set by Rocket Pool’s smart contracts is the coinbase address; any block the node operator proposed, not matching this coinbase address, would be invalid from a consensus perspective and they would miss their opportunity to propose and forfeit rewards.
The spec change got a fair amount of attention and we would love to thank all community members that joined in the conversation. Joe did a fantastic job of presenting our case to the ETH2 implementers’ meetup; however, a number of concerns were raised:
- Dishonest proposers could avoid paying fees by using MEV platforms that use non-coinbase payments
- It would introduce consensus complexity but wouldn’t fully solve the problem
Internally we debated and analysed these concerns and came to the conclusion they are valid; `0x02` would open up a gas market MEV opportunity, and so `0x02` on its own would not solve the issue. Whether this MEV opportunity would actually eventuate or would be viable in the future is unclear.
Ultimately, Rocket Pool has Ethereum’s success at heart. `0x02` is beneficial for us and other members of the community but it would also complicate consensus and could potentially delay The Merge. Even if `0x02` was implemented we would have to consider a mechanism for MEV. To fully commit to pushing the proposal, we had to be sure there was no other option. Additionally we do not want to delay our launch and `0x02` is an external dependency that would add uncertainty. So, we conducted extensive options analysis to determine whether a crypto-economic mechanism would be effective and could be used to ensure MEV is shared with the pool.
Through a combination of incentives and disincentives we are now confident we can achieve the same result as `0x02`. For more information on the analysis, please check out the new Rocket Pool Research repository or have your say in the #research group on Discord.
Additionally, through further research collaboration with bundle relayers, such as Flashbots, we believe we can also address MEV and maximise returns for node operators and rETH holders.
Coinbase Plan
During the install of the Rocket Pool smart node stack, our code will conveniently set up the appropriate coinbase address. If a node operator were to change their Execution Engine (ETH1) client coinbase address (to one that doesn’t share with the pool) it would be relatively simple to detect; the coinbase address becomes baked into the block they propose and therefore stored within the Beacon Chain. Once reported, the Rocket Pool smart contracts would apply a significant penalty to the node operator’s minipool. The exact penalty will be determined when we have better estimates after EIP1559 is launched, but it is likely to be around 50%-75% (either as a single penalty or over time). This approach gives Rocket Pool a similar level of protection compared to `0x02`.
Rocket Pool’s smart contracts and node software do not currently have this functionality so when The Merge is rolled out we will deploy an upgrade to implement the new plan. For now, we are focusing on launch but as our focus shifts to The Merge we will be engaging with the community and providing more details.
Standard commission rates would apply to priority fees (and MEV returns) so, at a commission rate of 10%, node operators would be receiving 10% more returns on their fair share of rewards compared to solo staking.
For more information on the coinbase plan, please check out the new Rocket Pool Research repository or have your say in the #research group on Discord.
MEV Research
MEV is a controversial topic and is polarising for us. The MEV superpower can be used for good, not-so-good, or for evil. We would prefer MEV did not exist but while it does, we cannot ignore it.
Rocket Pool believes staking pools have a massive part to play in what MEV looks like in the future. To that end, we are collaborating with Flashbots to research what MEV we could leverage to benefit node operators and rETH holders, in a responsible way (if that is possible).
If it is possible, we will add the Flashbots-enabled Execution Engine clients to our installation process. Node operators that want to partake in MEV could use this option. In doing so, we give node operators the ability to take advantage of responsible MEV automatically.
The MEV rewards from these bundles will be sent to a smoothing pool contract (described later) or the node operator’s minipool. Either of these contracts would ensure rewards are fairly split between the node operator and the rETH staking pool.
The future of MEV is an emerging area but we look forward to being part of the solution.
For more information on our very early MEV research and have your say, take a visit to the Rocket Pool Research repository or have your say in the #research group on Discord.
Incentive Research
We are also researching a number of incentives that would further strengthen our offering to node operators.
Smoothing Pool
Both priority fees and MEV are going to be lucrative for validators after The Merge. There is a significant luck factor in priority fee and MEV earnings (Flashbots research paper). Either by a shortage of block proposal opportunities, relatively low-reward rate, or a period of low activity on the chain, the range of expected rewards varies greatly from the luckiest to the unluckiest case.
The ubiquity of mining pools today clearly indicates people prefer a socialized reward structure, where many operators aggregate their hash power together and distribute the total rewards evenly to the participants. This has the effect of smoothing out the rewards, by transforming the high-risk, high-reward structure of solo mining into a consistent income stream.
Rocket Pool is investigating a feature that mimics this “smoothing” effect, but targeted at priority fees and MEV rewards, called the smoothing pool. This pool evenly distributes rewards to all participating Rocket Pool node operators (whilst contributing to rETH gains) at regular intervals automatically.
The smoothing pool is in the idea stage so we have not committed to implementing it, but it does look promising. Let us know what you think.
For more information on our incentive ideas, take a visit to the Rocket Pool Research repository or have your say in the #research group on Discord.
What’s Next
Over the last few weeks we have conducted extensive feasibility analysis on our approach to The Merge. We are confident we can implement something that maximises returns for node operators and rETH holders while having Ethereum’s broader success at heart.
There is a considerable amount of research, collaboration, and engagement to happen but, in the meantime, onward to Mainnet!
Questions or just say hello!
Well 10 points to you for making it this far! If you have questions or want to know a bit more about us, why not swing by for a chat and say G’day! You can view our website or have a chat with us in our chat room that anyone can join. If chat rooms aren’t your thing, we’re also on Twitter!
