Trusted Circles and Front Running
Tgrade has a self-sovereign governance framework in place that is the mechanism to create Trusted Circles.
The self-sovereign part is important as anyone can create a Trusted Circle, and this means that each group can create the rules and off-chain processes around the legislation they are governed by. The important part is linking the off-chain identity with a blockchain address.
Once we have a Trusted Circle, which is effectively a whitelist of addresses, we can begin assigning permissions to smart contracts. For example, I may wish to issue a green bond as a digital asset and link it to my Trusted Circle, German Green Investments so that only people in the group can invest in the bond. I can also set up pairs in the Automated Market Maker, T-Market, which has a sophisticated permission system where I set who can trade what.
The Trusted Circle framework allows groups of people to organise what is issued, who invests, and the trading.
We have seen front-running in the DeFi and Crypto world and on paper T-Market is as vulnerable as the big DeFi protocols.
Miner Extractable Value (MEV)
Flashbots have done some important work on identifying and analyzing MEV which they define as:
MEV is a metric representing the total value that can be extracted permissionlessly from the re-ordering, inclusion or censoring of transactions within a block being produced on a blockchain
Quantifying MEV: Introducing MEV-Explore v0
We took the first deep look at MEV and released our findings through MEV-Explore, a public dashboard and live MEV…
Using the Flashbots explorer we can see that on the Ethereum blockchain between January 2020 and the time of writing this article (September 2021) there has been $720M extracted. The analysis shows that 75% of the extraction involved the protocols Uniswap V2, Curve and Balancer and the majority of the extractions involved arbitrage.
It is one thing understanding how MEV works, and it is clear that there are a number of techniques such as front- and back-running. MEV is an activity which if left unchecked is a tax on transactions or value extraction at the cost of the market as a whole. In the traditional markets this is either the practice of entering orders in advance of information that is not public and will influence the price, or using latency to process order information to place orders before others can react. It is also banned in most markets.
Clearly prohibiting MEV in a permissionless blockchain is not an option, the next question is what can be done? Flashbots advocate “democratising MEV” arguing since you can’t ban it make it fair for everyone to participate. This is a reasonable argument but it is not fair on the users of the popular protocols such as Uniswap 2 who make trading decisions based on the information they have.
There are discussion on how this gets more complex in Proof of Stake or BFT protocols as, unlike Proof of Work does not have probabilistic finality thus narrowing the opportunity to rearrange transactions. It still remains possible in a Proof of Stake network to organise transactions and thus deploy MEV strategies. Sunny Aggarwal and Dev Ojha discuss on the Zero Knowledge podcast how zero-knowledge proofs can be put to work to create privacy in the mempools so that it would not be possible see the transactions and thus impossible to rearrange and inserting transactions becomes a bit like the game of pinning the tail on the donkey when blindfolded. It is a nice solution to prevent information leakage and thus create incentives to deploy MEV strategies of extraction and it will be good to see a working model in a living blockchain.
Trusted Circles are MEV resistant
Tgrade has set out its stall as a regulation friendly blockchain and it would be a difficult discussion to have with a regulator if we are convincing them of the regulatory frameworks and some how there is a backdoor to front/back running and sandwiching trades. When I became aware of MEV, it troubled me in the context of a clean and fair market place.
The possibility of validators running MEV exploits is very limited due to Trusted Circles. As described earlier a Digital Asset issued for use in a Trusted Circle limits who can trade the asset by definition and the addresses of the participants are known due to the off-chain due diligence. Now if a validator watching the transactions carefully decided to rearrange them and slip in a transaction, it would not work unless the validator is part of the Trusted Circle as they would not have permission to execute the trade. If a validator were part of a Trusted Circle and wanted to run a MEV program they would be limited to the trading activity of the Trusted Circle, and should they manage, the people who set up and run the Trusted Circle could spot the transactions and know who the blockchain address belongs to. It is no longer an anonymous attack, and the Trusted Circle have governance tools to censure participants.
To learn more about Tgrade, Trusted Circles, T-Market please visit the Tgrade website