Three Non-Obvious Observations About MEV
What are the types of MEV? Is all MEV bad? How can we mitigate MEV?
Recently, I have been doing a lot of work related to maximal extractable value(MEV) in proof of stake(PoS) blockchains. I am planning to write extensively about this work in future posts but today I would like to focus on some controversial topics surrounding MEV. Specifically, I would like to discuss the benefits ( yes!) and risks of MEV as well as potential mitigation strategies.
MEV has become a well-known term in the crypto community in the last couple of years. Conceptually, MEV refers to the maximum value that can be captured by participants in an otherwise riskless opportunity in a blockchain runtime. Although MEV has always been a citizen in the blockchain ecosystem, it was the raise of decentralized finance(DeFi) what drastically raised its relevance in the ecosystem. From that perspective, it is safe to say that most MEV takes place in DeFi operations.
1) There are Two Fundamental Types of MEV
Although there are many different types of transactions that trigger MEV opportunities, there are two types that vastly outnumber the rest:
· Liquidations: In DeFi lending protocols, there are plenty of opportunities to acquire the collateral of a loan that is approaching its collateralization threshold.
· Arbitrage: In automated market makers(AMMs), there are plenty of transactions whose value an be augmented by buying one asset and selling it somewhere else.
Again, there are other types of MEV opportunities but the aforementioned two account for a significant percentage of MEV activity in PoS blockchains.
2) Not all MEV is Created Equally: Good MEV vs. Bad MEV
Another controversial topic surrounding MEV is its tightly couple relationship with DeFi. In general, I am of the opinion that some types of MEV are essential to achieve anything close to efficiency in DeFi markets. Granted, DeFi is based on very inneficient market primitives and you can argue that MEV is not exactly the most elegant way to bring efficiency into DeFi but those are theoretical opinions. In the current state…
