Maximal Extractable Value (MEV) is a concept that has evolved significantly with Ethereum's shift from a proof-of-work (PoW) to a proof-of-stake (PoS) system, reflecting the changing dynamics of transaction handling and block validation. Originally termed as "miner extractable value" in the PoW context, MEV represented the potential profit miners could gain by manipulating the inclusion, exclusion, and order of transactions. However, with the advent of Ethereum's transition to PoS known as "The Merge," this responsibility shifted to validators, prompting a broader application of the term MEV.
MEV emerges from the unique structure and function of blockchain. Unlike a simple first-come, first-served system, blockchains operate more like competitive marketplaces. Those responsible for adding new transactions to the blockchain, such as miners or validators, prioritize transactions that offer them the highest fees. This auction-like system is the playground of MEV, where block producers strategically choose transactions to maximize their returns.
Source: BlockNative
This phenomenon is influenced by several factors: the limitation of block space, the transparency of transactions, the existence of transaction fees, and the authority of block producers over transaction sequencing. These elements create opportunities for block producers to significantly influence the order and inclusion of transactions, thereby extracting maximum value.
The Central Challenge of MEV
The promise of profit from Miner Extractable Value (MEV) has raised concerns about its potential to undermine Ethereum’s independence and its core feature of censorship resistance. Central to this debate is the fear of MEV leading to stake centralization in Ethereum. The reasoning is straightforward: if only elite players running validators can capture MEV rewards, it stands to reason that ETH holders will naturally gravitate toward these high-yield validators.
Fortunately, Ethereum has been able to dodge this centralized future, at least temporarily, through the implementation of MEV-Boost. This system levels the playing field, granting both major staking pools and individual validators equal access to MEV rewards. However, MEV-Boost was never designed to be a long-term solution. While it has spurred the development of a vibrant ecosystem of specialized MEV players, a drawback is the industry’s growing dependency on a few trusted entities and a single software client.
In an earlier discussion, we posited that a decentralized network dedicated exclusively to sequencing transactions would be the ideal remedy to the MEV crisis. Though it remains a work in progress, a mere alteration to the core Ethereum protocol to incorporate Proposal Builder Separation (PBS) will not suffice.
It is our belief that the resolution to the MEV conundrum might be external to Ethereum. We foresee not a singular, catch-all solution, but multiple decentralized MEV supply chains tailored to particular applications. Furthermore, the current emphasis on MEV from CEX-DEX arbitrage, which makes up about 60-70% of MEV volume and profits, is arguably misplaced. Should DeFi establish itself as a pillar of the global financial system, other, more pressing MEV issues will arise.
MEV in Context: Current Dynamics and PBS
At its core, PBS serves as the bedrock design philosophy to ensure Ethereum's decentralization and impartiality. For the present, Ethereum has realized PBS through MEV-Boost. This software, provided by Flashbots and utilized by validators, empowers a randomly chosen block proposer to auction off the privilege of constructing the most lucrative block. Thus far, PBS has made MEV rewards accessible even to solo stakers who lack advanced MEV strategies. Nevertheless, the broader MEV supply chain is still riddled with issues of centralization.
Proposer-Builder Separation (PBS)
Maximal Extractable Value (MEV) presents a formidable challenge in the Ethereum network, contributing significantly to the centralization of block building and transaction censorship. The core issue stems from Ethereum's permissionless structure, allowing anyone globally with internet access and necessary software to send transactions. This openness, while a cornerstone of blockchain's ethos, paves the way for malicious entities to inundate the network with spam transactions, leading to potential slowdowns and vulnerabilities.
In response to the escalating concerns surrounding MEV, Ethereum's core developers, in collaboration with Flashbots, introduced MEV-Boost. This innovation allows validators to connect to an array of third-party MEV marketplaces—known as relays—to receive pre-constructed blocks imbued with MEV, crafted by specialized entities referred to as "builders."
To review, a block proposer, in the context of Ethereum's current architecture, is a node that gathers transactions into a new block. A builder is the entity that actually gathers transactions and builds the block. This block is then propagated across the network for validation and eventual inclusion in the blockchain. Proposers play a critical role in determining transaction order and inclusion, often prioritizing those that offer higher priority fees from the Ethereum mempool. This practice remains consistent in the design of post-merge Ethereum.
However, with the introduction of the Ethereum Merge and the shift to a Proof-of-Stake (PoS) model, the dynamics of block proposing have evolved. Validators are now randomly selected to act as block proposers in each slot. These validators are responsible for creating and broadcasting new blocks while a randomly selected committee of validators confirms the blocks' validity.
While MEV-Boost represents a stride towards decentralization, it doesn't fully resolve the centralization and censorship issues attributed to the builders and relays themselves. The solution's evolution and the broader Ethereum's Proposer-Builder Separation (PBS) are under active exploration, highlighting the vast potential of this domain.
In essence, the Ethereum protocol’s design is envisioned to be straightforward. The protocol operates on the assumption that a randomly selected validator will, for every block, build a block by sorting through the public mempool for the highest-fee user transactions.
Intricacies arise when considering the additional players in the MEV supply chain: the searcher, builder, and relayer. These entities liaise with validators via MEV-Boost, a system employed by an overwhelming 93% of Ethereum validators. Among these, the builder is most susceptible to centralization. Notably, while the relayer receives the least rewards, the economic dynamics between searchers, builders, and relayers remain enigmatic. There is a noted trend favoring vertically-integrated builders, demonstrated by Blocknative's recent exit from the relayer sphere, citing prohibitive operational costs and zero associated revenue. Concurrently, Bloxroute, another key player, operates dual relayers, one that screens blocks with sanctioned addresses and another geared toward maximizing profits.
As Ethereum continues to evolve and the landscape of MEV changes, the challenge remains to find a balance between capturing value and preserving the platform's decentralized nature. The journey toward a solution is undoubtedly complex, but with collaboration and innovation, the challenges can be addressed.
