What is the MEV known as the 'Dark Forest' of Ethereum?

The distinctive feature of blockchain is that its transparency and traceability exceed most systems in the world, but there are still invisible games behind it! MEV (Miner Extractable Value/Maximum Extractable Value) is the hidden dark forest, which may be behind every transaction.

Since January 1, 2020, according to relevant statistics, the extracted MEV is worth at least US$900 million, and the extracted MEV is increasing exponentially.

So what does MEV mean? What specific types are there? What's the impact? Lets come look.

01
What is MEV?

In 2019, a smart contract researcher first proposed the term MEV, which is the abbreviation of Miner Extractable Value, Represents miners’ extractable value. With the development of Ethereum merger, it is called maximum extractable value under PoS - Maximal Extractable Value.

The concept of MEV was originally associated with the Ethereum network, when Ethereum adopted the Proof of Work (PoW) consensus mechanism. Under this mechanism, when a user submits a transaction on the blockchain, the transaction information will not be immediately recorded in the block, but will be temporarily placed in a public pending transaction pool, which everyone can See what's in it.

Arbitrageurs and miners can monitor this transaction pool and use this to maximize profits. For example, in the process of packaging blocks, miners can use their own power to sort the submitted transactions and Your own transactions are ranked in front of real users to increase the cost for real users to purchase tokens. The extra cost paid by users minus the gas paid by miners for transactions is the profit earned by miners. The term “miners can extract value” is emerging day by day.

Although the process of block mining is fair, miners have significant control over the transactions that enter the block record. It can also be understood that MEV is an invisible tax levied by miners and arbitrageurs on ordinary users without the consent of the users.

By September 2022, Ethereum will complete the merger and the consensus mechanism will be converted from PoW to PoS. In this way, new blocks on the Ethereum network are no longer managed by miners, but created by validators. However, since the block is still being created, whoever chooses which transactions to add in which order will make decisions that extract as much profit as possible from the block.

At this time, miners became validators, and currently many strategy robots and other network participants (also called searchers) focusing on DeFi transactions have also entered the ranks of extracting MEV. There is competition for transaction profits. Therefore, MEV is not the exclusive privilege of block producers/verifiers.

Therefore, the range of people obtaining MEV in the PoS context has become larger, but everyone’s purpose has not changed, and they are all aiming to obtain maximum benefits. Therefore, MEV is now more commonly known as Maximal Extractable Value - the maximum extractable value.

02
What are the types of MEV?

Currently MEV appears on the blockchain in the following mainstream ways in the DeFi field:

· DEX Arbitrage

DEX arbitrage is the simplest and most well-known opportunity to make profits by operating on MEV. Therefore, it is also the most competitive. It works as follows:

If two DEXs offer Tokens at two different prices, then someone can buy the Tokens on the lower-priced DEX and trade them in a single P2P transaction (also called an atomic transaction). Sold on higher priced DEX. Due to the transparent decentralization mechanism of the blockchain, this is a real and risk-free arbitrage model.

· Liquidation

Loan agreement liquidation provides another MEV arbitrage opportunity that is also well known. Because DeFi allows users to make loans using deposited digital assets as collateral. If there is market volatility and the value of the collateral falls below a certain price, the asset will be forced to liquidate. The smart contracts involved typically pay rewards or fees to transactions that trigger a liquidation.

This situation creates an MEV opportunity, when any searcher or block producer running a bot discovers such a transaction and can insert its own liquidation transaction in the block before others, thereby Extract reward value.

· Sandwich Sandwich Deal

Sandwich trading is also a common MEV arbitrage method, also known as Sandwich Attack. It is an attack method that uses preemptive trading to attack transactions for arbitrage.

To achieve a sandwich transaction, the searcher monitors the mempool of large DEX transactions, finds a pending transaction, and then attempts to sandwich the victim with subsequent transactions. The working principle is as follows:

Assume that the user needs to buy U to buy X on BSC. When searchers notice the transaction, they will use higher gas to preemptively buy X, making the asset The price rises, causing users to buy X at a higher price, and then searchers sell the X they bought to make a profit.

When the theoretical cross-exchange rate of digital assets X and Y is significantly different from the actual exchange rate, when searchers notice that X transactions are used for Y, they will buy Y before X holders. The searcher knows that the victim's transaction will increase the price of asset Y, and thus plans to purchase asset Y at a lower price, allowing the victim to purchase Y at a higher price.

· NFT MEV

MEV in the NFT space is an emerging phenomenon, and not necessarily profitable. However, since NFT transactions occur on the same blockchain shared by all other Ethereum transactions, searchers can also use similar technology to traditional MEV opportunities in the NFT marketplace.

For example, if a popular NFT drops in price and a searcher wants a certain NFT or group of NFTs, they can program a transaction to make them the first in line to purchase the NFT, Or they can purchase the entire NFT portfolio in one transaction. Or, if an NFT is mistakenly listed at a low price, searchers can snap it up before other buyers.

Overall, DEX arbitrage, liquidation, and sandwich trading are all very well-known MEV opportunities, but this is for validators and is unlikely to be profitable for new searchers. NFT MEV has more opportunities for searchers.

03
What are the impacts of MEV?

MEV can be further subdivided into benign MEV, bad MEV and catastrophic MEV.

Benign MEV Mainly refers to arbitrage trading and clearing, the purpose is to make transactions proceed more smoothly and improve market efficiency and liquidity;

Bad MEV mainly occurs in robot front-running, sandwich arbitrage transactions, etc. For example, sandwich attacks create profits at the expense of traders;

catastrophic MEV refers to threats and damage to the blockchain consensus layer through reorganization and other methods, leading to network congestion and A very poor user experience is not conducive to the normal operation of Ethereum.

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