As the world economy continues to decline, people have started to ask more and more questions about how cryptocurrency works. The most recent question we’ve had is about MEV, also known as maximal extractable value.
Sometimes also called miner extractable value, this is a number that is attached to the amount collected by cryptocurrency miners for rearranging blocks on the blockchain. MEV isn’t necessarily a good thing, especially because of the number of bots actively working to create MEV. Read on to learn everything you need to know about maximal extractable value in crypto.
MEV is basically a small and often hidden “tax” that individuals using the blockchain experience. While it is most commonly found when utilizing exchanges, it can be found in almost every aspect of blockchain processing.
In essence, MEV is a small amount of money miners or validators receive for ordering the blocks in the “waiting room” during the transaction process. You’ve probably experienced it; if you’ve ever executed a transaction and received a few cents or bytes less than you expected, it is likely due to paying MEV.
While MEV isn’t always bad, it is a way that miners and validators are able to extract a little bit more money from users. Some of it is necessary, but unfortunately, many individuals have built bots to focus on extracting MEV to maximize their bottom lines.
MEV is complicated to explain if you don’t understand blockchain, but we are going to try our best. If you find yourself still confused, we recommend reading about how blockchain works and then returning to read this article again.
First, there is a user who clicks “submit” on their transaction, typically on an exchange, though MEV can also be extracted from crypto wallet-to-wallet transfers. Regardless, the transaction is then sent to a “waiting room” called a mempool(often found via blockchain explorers). It is not private, and anyone on the blockchain can see your transaction there waiting.
Blocks on the blockchain are built by grouping these transactions together into a single block. This process is performed by miners on some blockchains (Bitcoin) and validators on others (Ethereum).
Basically, these miners and validators are in charge of picking which transactions go through with their block. While you might think they would always pick those who paid the most to prioritize their transaction, this is where MEV comes in. Sometimes, miners and validators will group and order transactions in a specific way to take home more money for themselves.
As you can imagine, this isn’t something the human mind can decipher in time to catch and order the transactions. As such, many miners and validators utilize bots to watch for these opportunities, manipulating the system to ensure they can process these transactions and take home the MEV.
In general, it is the validator or miner that benefits from MEV; however, the prevalence of MEV is increasing, and some individuals have started specific types of bots for the purpose of collecting MEV. In these cases, the person behind the bot keeps the MEV. There is no way to always identify the entity behind a bot, though some DeFi platforms do create their own to keep their platform running fluidly.
MEV is neither bad nor good. It is a natural occurrence in many instances and simply part of doing business. That being said, there are some types of MEV that are considered harmful because they are deceptive to consumers and users. Below, we will go through the types of MEV as well as whether or not they are viewed in a positive or negative light.
It is important to remember that while MEV is naturally occurring, the entity behind the bot matters too. If a malicious actor creates these bots to use the money for a malicious purpose, even if the process of collecting the MEV may be good, it can be inherently bad for users and society.
Arbitrage is considered a neutral type of MEV. It naturally occurs in both the fiat and crypto worlds, and there will always be individuals taking advantage of arbitrage opportunities, and this process actually keeps markets efficient, so most professionals don’t mind it.
These MEV opportunities are usually spotted by bots and occur when a token is cheaper on one exchange than another. The bot will spot the difference, buying the tokens from the cheaper exchange and selling them to the more expensive one, pocketing the difference.
Sandwich attacks are considered a negative type of MEV, as they harm regular users. They occur via bots, and typically happen when an especially large transaction is pending in a mempool.
For this attack, the bot spots your buy order, and rushes to purchase the token ahead of you, driving the price up. Then your transaction executes at a higher price, costing you more. Once your transaction is processed, the bot sells the token, gaining money for itself. While some individuals argue that there is nothing preventing bots from doing this, it does result in the user paying a higher price just so a third party can net positive.
Liquidation MEV is necessary for the blockchain to function and is seen as a positive form of MEV. Liquidation MEV requires an individual to borrow funds on a DeFi platform, putting up a token as collateral. As we all know, tokens fluctuate often, and there may be an instance where the token that the collateral is placed in drops in value, requiring the protocol to sell the token to cover the cost of the loan.
MEV comes in, because bots watch for this, rushing to trigger the liquidation as they receive a return for doing so. Although this sounds mean, this is required for a lending protocol to save solvent, and that is why these bots exist, to ensure this process happens quickly when the conditions are met.
Overall, there are so many ways to look at MEV, and while we don’t want anyone sandwich-attacking you, MEV bots are a necessity for DeFi lending protocols and are required to keep trading markets efficient. So next time you hear someone talk about the harms of MEV (we aren’t denying the existence), you can show them the lighter side of these blockchain money-hungry bots.
This article was brought to you by the Bitcoin Dice Game on MintDice. Originally posted on MintDice.com.
