Illuminating the Dark Forest: Unveiling the Mysteries of MEV

The evolution of on-chain activities and infrastructure in Ethereum has made MEV one of the most dangerous parts of Ethereum's "dark forest", causing profit losses and degraded experiences for users. This article analyzes the centralization and trust issues brought about by this mechanism in light of the block generation mechanism of Ethereum 2.0 and the proposer-builder separation (PBS) technology, highlighting the contradiction with Ethereum's decentralized values.

MEV is indeed a double-edged sword, with both positive and negative externalities. The positive aspects include reducing price discrepancies on DEXs and assisting in the liquidation of trades; the negative aspects include harm to users from sandwich attacks. Therefore, solutions for MEV are more about mitigating negative externalities rather than eradicating them. In the process of exploring ways to mitigate MEV's negative externalities and addressing the current issues with third-party trust middleware Relayers, the measures can be mainly divided into three categories: improvements in auction mechanisms, enhancements at the consensus layer, and advancements at the application layer. These improvements will affect the MEV landscape to varying degrees, but some solutions may not fundamentally resolve the sandwich attack problem faced by users. User transactions still reside in public pools, so it is necessary to introduce more privacy pool technologies to protect the optional privacy of user transactions. These MEV solutions are worth attempting in combination.

Moreover, as an unavoidable byproduct of mechanism design, MEV will become even more complex in the future. We also explored the potential additional MEV technical challenges and opportunities that may arise under new transaction types implemented in Layer 2 architectures and EIP-4337 account abstraction.

Finally, we hope to explore potential solutions to mitigate the negative externalities of MEV through this article, and to gain a comprehensive understanding of the pros and cons of current MEV solutions, not only to illuminate the "dark forest" in which users find themselves in the future, but also to shed light on further research directions for industry researchers regarding MEV.

Ethereum 2.0

Since The Merge, Ethereum has adopted a POS mechanism to ensure network security, abandoning computation-intensive competition for block production in favor of proof of stake. After the merge, Ethereum is divided into an execution layer and a consensus layer. The block production also changes, with each Epoch being a POS cycle, divided into 32 Slots, each Slot being a 12-second block time unit.

In each Epoch, the network randomly selects a validator committee, from which a block proposer is randomly chosen to package and order transactions and produce blocks, while the other committee validators supervise and vote. The committee is reselected after each Epoch, with operational time limits imposed to ensure efficiency. Here, the term Payload is defined as the execution load, which refers to the state changes of transactions and can be seen as part of the execution of the block. The block proposer will implement the execution load and the block proposal.

PBS Architecture

In fact, when validators are chosen as block proposers, they often lack the motivation to execute the payload, as this requires a significant amount of computational power. Initially, it was considered to incorporate the execution load into the decentralized committee election, making transaction ordering a decentralized affair. However, validators naturally want to outsource this part and focus on proposing blocks themselves. This led to the emergence of the PBS concept, separating block proposal and construction. Proposers are only responsible for validating blocks and do not participate in construction. The separation between proposers and builders facilitates an open market, where block proposers can obtain blocks from builders. Builders compete with each other to construct blocks, offering the highest fees to proposers, referred to as "block auctions."

Brief introduction to PBS( Proposer Builder Separate) sealed first auction model: Users submit transactions to the public Mempool through RPC agents, and multiple Builders find the most suitable transactions to sort to generate profit-maximized blocks( profit = Base + Priority + MEV), and then interact with the Proposer through MEV-Boost Relayer. The Relayer acts as a bridge for multiple Builders to interact with the Proposer. Builders submit bids to the Relayer, which submits multiple block headers and corresponding bids to the Proposer. The Proposer generally adopts the block with the highest bid. The Relayer implements the MEV-Boost specification, which regulates the bidding interaction between Builders and Proposers. During this process, all information is sealed, and the Relayer only submits block headers to the Proposer, thus giving the Proposer censorship resistance.

Various Participants and Game Theory Under PBS

The main participants are Builder, Relayer, Proposer, MEVbot(Searcher).

Builder

Builders are responsible for constructing block content, and using MEV-Boost is more advantageous in bidding, as it supports Gas Fees and MEV profits. Builders can directly review transactions between users and Searchers, which has been criticized, especially after the U.S. government released the OFAC, leading to many Builders participating in OFAC Compliance. Although the proportion of reviewed blocks has recently decreased, Builders have a direct impact on transaction reviews during the block construction process.

Currently, in terms of market share in the Builder sector, the unreviewed beaverbuild.org is gradually expanding its market share, with everything driven by profit.

Searcher

Maximizing profits requires collaboration between Searchers and Builders. Searchers often work with specific Builders to form Dark Pools or Private Pools, where Searcher trades are only visible to certain Builders. Some Builders obtain MEV trades that maximize profits, which in turn allows them to bid for block space. Theoretically, if Builders act maliciously or censor, it will lead Searchers to choose other Builders, resulting in a decrease in the market share of Builders. Therefore, Builders will consider the hidden costs of malicious actions. MEV profits can even reach twice the daily Gas profits during significant market fluctuations.

Searcher is divided into CEX-DEX( off-chain) arbitrage and two major categories of DEX, mezzanine, and liquidation( pure on-chain). Currently, Wintermute holds the largest market share in CEX-DEX arbitrage trading.

For purely on-chain MEV opportunities, there is a gradual trend towards studio formation. jaredfromsubway.eth holds a market share of 37.2% and is skilled at performing sandwich attacks on Ethereum chain users, once becoming the highest gas consumer on the chain, accounting for about 1.5% of daily gas usage. From February 2023 to June 2024, this bot spent a total of 76,916 ETH, approximately 175 million USD. Due to the close connection between Searchers and Builders, many Searchers send order flows to the top three Builders; they could broadcast to all Builders, but small Builders may split the order flow, leading to strategy failure and loss risks. Binding Builders can also maintain ecological influence.

Relayer

The Relayer is responsible for gathering bids and serves as an intermediary to submit the block header and bidding price to the Proposer, who is unaware of the block transaction details at this point. After the Proposer selects and signs the block header, the Relayer releases all transaction content to the Proposer. The Relayer, as a third party without economic incentives, gains significant trust, with the Builder relying on the Proposer's quotes and the Proposer relying on the Relayer's quotes and block content. Similar issues have occurred historically, with Ultrasound Relayer having vulnerabilities that led to the Proposer extracting over $20 million in MEV. Although the vulnerabilities can be patched, the Relayer itself can still choose to act maliciously to steal MEV.

The market share of the Builder focused on MAX Profit has gradually expanded since the Merge. In a free market, it is impossible for Builders to artificially control MEV.

At the same time, Relayers face the issue of lacking economic incentives. Blocknative has exited the development of Relayers. Currently, Relayers rely on the MEVBoost specification proposed by Flashbots, and Ethereum's dependence on third parties to provide PBS is not a long-term solution. Therefore, the Ethereum community is exploring the incorporation of PBS at the protocol level.

Proposer

For proposers, a committee is randomly selected from all validators, with one block proposer chosen for each slot. Block proposers have the capability to execute loads but naturally want to outsource, which can easily lead to vertical cooperation between builders and proposers. MEV-boost's relayers hope to act as intermediaries to reduce the vertical collusion arising from direct communication. Currently, mining pools serve as validator pools, but mining pools and LSD validator pools have strong scale effects, especially with the emergence of LSD releasing the potential of staked tokens, enhancing capital efficiency. Influenced by the underlying DEFI building blocks, validator pools are trending towards greater centralization.

Lido currently holds 28.7% market share, with Coinbase and Ether.fi ranking second and third. In the past, when the MEV-BOOST PBS solution was not actively implemented, Proposers were responsible for the Builder task, which is the execution load. However, most Proposers gave up their transaction ordering execution capability because the heavy computational work would severely burden validation performance, making it more efficient to outsource the execution load and allow third parties to auction blocks.

User

Finally, let's talk about the User. Users are the most disadvantaged in the entire architecture design, as their transactions are placed in the Mempool and are subject to various MEV bots that extract MEV profits, which do not flow to the users. However, this is not entirely negative. For example, in DEX, when there are large on-chain price fluctuations or when user trading volume exceeds DEX liquidity, MEV bots can reduce slippage and price discrepancies across platforms through arbitrage. Therefore, MEV has both positive and negative externalities, which need to be discussed separately, and this is also part of its complexity.

To avoid users being harmed by MEV bots, many RPC node providers can help users place transactions in a non-public Mempool, such as by directly interacting with Builders through Builder's RPC. An innovative approach is to compensate users for MEV profits through the OFA(Order Flow Auction), where OFA RPC operators collaborate with Searchers to auction user orders to Searchers, who maximize MEV, allowing the entire order flow to enter the block, and then Searchers return the profits to the users.

The current proportion of users utilizing private order flow is still low, at about 10%, mainly due to high user education costs. Many users are unable to properly disseminate knowledge about MEV and coping strategies, and the operations are complex. To optimize user experience, users need to be more passively rather than actively accepting.

Summary

Under the current PBS architecture, following the introduction of the MEV-BOOST specification, this profit-maximizing sealed bid auction mechanism has gradually guided Builders and Searchers towards cooperation and trust. Regardless of whether Searchers or Builders' interests are bundled, this centralization trend is very obvious. Under POS, it will also lead to the centralization of Validators, and the entire MEV industry chain has become centralized, introducing multi-party trust issues where Searchers trust Builders, and Builders and Proposers trust Relayers. The centralization and trust-based development of MEV is clearly contrary to the ultimate vision of decentralization and trustlessness in Ethereum. The Ethereum community is currently discussing three proposals to alleviate this centralization.

1. Regarding the bundling of Builders and Searchers: The SUAVE technology proposed by Flashbot makes transactions more transparent, lowers the trust threshold for Searchers towards Builders, and encourages Searchers to send order flows to all Builders.

2. Regarding Relayer Trustification: Use Enshrined PBS to replace the current PBS scheme, eliminating reliance on Relayer during the bidding process.

3. Regarding Validator Centralization: Adopting decentralized AVS, such as SSV, Lido has currently partnered with it.

Current Status of MEV

Currently, the main on-chain MEV consists of arbitrage, sandwich attacks, liquidations, etc. Among them, arbitrage profits are the highest, with MEV bots reportedly earning a total profit of 2.6 million USD in the past 30 days.

In fact, the average profit from a single transaction is about $0.8. Relying on a large number of transactions, the profit from sandwich attacks on the Ethereum chain in the past 30 days is approximately $880,000.

MEV has both positive and negative external effects. The positive effects include the reduction of price differences between DEXs brought about by arbitrage, which helps DeFi protocols carry out collateral liquidation transactions, among other things. The negative effects mainly involve sandwich trading that causes users to lose part of their profits. Under the current on-chain fee mechanism, although Ethereum has implemented a Gas Fees smoothing mechanism, there will still be times when the increase in on-chain arbitrage opportunities leads to MEV bots and users trading on-chain together, resulting in a spike in on-chain Gas Fees in a short period, causing economic and experiential losses to users.

Not only due to the MEV and centralization issues brought by the PBS and POS architecture, but also derived during the transition of Ethereum to the Layer 2 architecture.