In this article, we dive into the current landscape of Layer 2 (L2) Maximal Extractable Value (MEV) and explore the implications of MEV for different L2 designs.
Additionally, we discuss the decentralization of L2s and how it can impact L2 MEV.
MEV, also known as Maximal Extractable Value, refers to the value extracted directly from smart contracts through the control of transaction ordering.
It was first formally defined in the “Flash Boys 2.0” paper in 2019.
L2 MEV wat
In this article, we “map” the current landscape of L2 MEV, thinking about different MEV consequences for different L2 designs. We also briefly overview different ways of L2s decentralization and how it might impact L2 MEV.https://t.co/axqOClhRPv pic.twitter.com/pRI2ry2Gjp
— Taiko 🥁 (@taikoxyz) June 13, 2023
What is MEV?
MEV, short for Maximal Extractable Value, refers to the value extracted directly from smart contracts by controlling the order of transactions within a particular epoch.
MEV was formally defined in the “Flash Boys 2.0” paper in 2019.
To understand MEV, it is essential to understand arbitrage bots.
These bots browse blockchain systems, particularly decentralized exchanges (DEXs), to exploit the trading opportunities of ordinary users.
MEV Extraction in Ethereum
Initially, MEV on Ethereum was extracted by miners using tools like mev-geth.
Miners competed to find MEV in the mempool and include their bundle, which contained the most potential MEV, into the blockchain.
After the transition to Proof of Stake, MEV extraction became available for validators through tools like mev-boost.
This led to a highly competitive industry, with millions of dollars worth of MEV extracted since the merge.
MEV Consequences for Different L2 Designs
The increasing focus on Layer 2 solutions in Ethereum’s roadmap raises questions about how MEV extraction will be affected.
Different L2 designs have varying implications for MEV extraction.
Let’s explore a few scenarios.
Centralized Sequencers (any MEV observed? 👹)
Most L2 Ethereum Rollups currently rely on single, centralized sequencers responsible for transaction ordering.
MEV extraction in these rollups is limited to the control of the single sequencer.
However, sequencing mechanisms differ across rollups.
For example, the First Come First Served model limits the sequencer’s ability to extract MEV, while other designs like Optimism provide more sequencing power.
Although MEV extraction opportunities are limited with centralized sequencers, there are possibilities to extract MEV in a centralized manner and transparently distribute it for public goods.
Decentralized Sequencers
Decentralization in L2 designs can take different forms, such as the number of participants and the mechanism used.
Mechanisms like auctions, random leader elections, or economic competition can be employed for decentralization.
Decentralized sequencers offer the potential for more participants to join and leave the system, fostering a permissionless environment.
These designs aim to reduce the concentration of power and enhance censorship resistance.
Shared Sequencers
Shared Sequencers, such as Espresso and Astria, act as proposers for multiple rollups.
They build blocks, order transactions, and send them to the parties responsible for execution.
Shared Sequencers enable cross-chain MEV extraction, allowing rollups to benefit from MEV opportunities on different rollup designs and free space for experiments.
Hierarchical Sequencing
In hierarchical sequencing, the transaction ordering process is divided into multiple layers, each with its own sequencer.
This design allows for more scalable and efficient transaction processing.
The lower-level sequencers handle transactions within their respective layers, while the top-level sequencer aggregates the blocks from lower layers and submits them to the Ethereum mainnet.
MEV implications
In this design, MEV extraction can occur at each layer’s sequencer.
The lower-level sequencers may have limited MEV opportunities compared to the top-level sequencer, which has access to transactions from all layers.
However, the hierarchical sequencing design also introduces challenges in ensuring fair and transparent MEV allocation between layers.
Validator Set-Based Sequencing
Validator set-based sequencing involves selecting a set of validators responsible for ordering transactions.
The selection process can be based on various criteria, such as staked ETH or reputation.
Validators in this set take turns proposing blocks and ordering transactions within those blocks.
In this design, the validators in the selected set have the authority to extract MEV during the transaction ordering process.
The selection mechanism plays a crucial role in determining the distribution of MEV opportunities among validators.
Additionally, the inclusion of MEV-aware validators in the set could impact the overall MEV landscape on L2s.
Proof-of-Stake MEV Auctions
One approach to handle MEV on L2s is through proof-of-stake MEV auctions.
Similar to the MEV Auctions concept proposed by Karl Floersch, this design allows participants to bid for the right to extract MEV within certain constraints.
The winning bidder can reorder transactions and insert their own, as long as they do not unduly delay specific transactions.
Proof-of-stake MEV auctions provide a structured framework for MEV extraction on L2s.
The auction winner gains the ability to capture MEV but must adhere to certain rules to maintain fairness and network stability.
This design can potentially incentivize participants to compete for MEV extraction rights, leading to a dynamic and competitive MEV landscape.
MEV-Aware Rollup Designs
As the understanding of MEV evolves, rollup designs are incorporating MEV-aware mechanisms to address potential issues.
These designs aim to minimize the negative impact of MEV and create a more equitable and efficient ecosystem.
MEV-aware rollup designs focus on mitigating the harmful consequences of MEV extraction.
They may introduce mechanisms to redistribute captured MEV for public goods or use it to incentivize behavior that benefits the network.
These designs prioritize the long-term sustainability and fairness of L2 ecosystems.
Cross-Chain MEV Exploration
With the emergence of multiple chains, each with its own MEV opportunities, cross-chain MEV exploration becomes a crucial area of study.
Researchers are investigating the formalization and quantification of MEV across different chains and exploring ways to leverage cross-chain interactions for MEV extraction.
Cross-chain MEV opens up new possibilities for extracting value from arbitrage opportunities and price discrepancies between chains.
It requires coordination and synchronization between chains to maximize MEV extraction.
As L2s become a dominant part of the ecosystem, understanding and harnessing cross-chain MEV will play a significant role in optimizing value extraction strategies.
Conclusion
The landscape of L2 MEV is a rapidly evolving domain with diverse designs and implications.
As the Ethereum ecosystem shifts towards rollups and higher-layer solutions, understanding and addressing MEV becomes crucial for ensuring network security, fairness, and efficiency.
Different rollup designs offer unique approaches to handling MEV, including centralized sequencers, decentralized sequencers, shared sequencers, L1-based sequencing, and more experimental designs.
Each design presents its own trade-offs and implications for MEV extraction.
Hierarchical sequencing provides scalability but introduces challenges in fair MEV allocation between layers.
Validator set-based sequencing allows validators to extract MEV but requires a careful selection mechanism to ensure fairness.
Proof-of-stake MEV auctions offer a structured framework for MEV extraction, incentivizing participants to compete for MEV rights.
MEV-aware rollup designs aim to mitigate the negative impact of MEV and promote a fair and sustainable ecosystem.
Cross-chain MEV exploration explores opportunities for value extraction across different chains.
As the research and development in the field of L2 MEV continue, it is crucial to consider the broader implications of these designs.
Transparency and fairness in MEV allocation are important to prevent the concentration of power and unfair advantages.
It is also essential to incentivize behaviors that benefit the network as a whole, such as contributing to public goods or supporting long-term sustainability.
Furthermore, collaboration and coordination between L2 solutions and the broader Ethereum ecosystem are key.
Interoperability between different rollups, bridges, and chains can enable more efficient and diverse MEV extraction strategies.
Establishing standards and protocols for cross-chain communication and MEV measurement can facilitate a more integrated and optimized MEV landscape.
Overall, the exploration and development of different rollup designs and MEV handling mechanisms are crucial for the maturation and sustainability of the L2 ecosystem.
By addressing MEV challenges and creating a fair and efficient environment, L2 solutions can unlock the full potential of Ethereum and enable a wide range of decentralized applications and use cases.
