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Aleph Zero reduces the negative effects of MEV. How?

Mar 10, 2023

Maximal Extractable Value prevention has to do with the design of the network, as well as recognizing certain benefits of MEV that should be retained to ensure a healthy ecosystem. 

The MEV occurs when block builders/arbitrageurs re-order transactions before they are appended to the blockchain. This happens because block builders/arbitrageurs have access to the mempool. where all transactions wait for ordering before they are added to the chain. While the transactions are waiting in the mempool, block producers are able to pick transactions from there arbitrarily, order them, and insert their own transactions in between while constructing a block.

This practice has both positive and negative consequences for the network, depending on how it is conducted. It helps maintain the price balance of the cryptocurrency, but on the other hand, it can be used for front-running other participants.

Here’s how Aleph Zero will prevent the negative effects from happening.

Collecting transactions through Liminal

We plan to adopt several solutions to limit the types of MEV that are not incentive compatible, that is, the actions that harm the ecosystem as a whole. The design will involve Liminal, the native privacy framework that uses Zero-Knowledge Proofs and sMPC.

Let’s lay out the initial steps Aleph Zero will pursue to limit the negative effects of MEV: 

  • The transactions will be privately collected in batches; 
  • The contents of each batch will be presented in a way that will make it impossible to front-run the order. This will happen by not disclosing any critical information contained within the batch; 
  • Only after the entire batch is processed will the arbitrageurs be able to balance out the price by back-running transactions–a process crucial for the ecosystem’s health.

During the first stage, the system will be built around ZK-SNARKS. This technology will conceal transaction details from the public and make the contents known only to the so-called “managers” appended by the Aleph Zero Foundation. The managers will receive the information in plain text. While this process ensures that the transaction order cannot be front-run, it will evolve into another decentralized form.

The function of managing transaction batches will be replaced by a decentralized protocol built on secure multi-party computation (sMPC) technology to further prevent MEV. The principle will remain similar–that is hiding the content of transactions from the public–but the technology enabling that will change..

How MEV ensures a healthy ecosystem

One of the positive effects of MEV is the way it helps incentivize a healthy blockchain ecosystem by guaranteeing that traders receive the most accurate information on the price of cryptocurrencies. 

For example, if on a decentralized exchange, the block producer can trade after a user performs a trade (a practice known as back-running), he restores the price balance of the given token. Naturally, this is in the best interest of the whole community. Such a situation is an example of incentive compatibility between arbitrageurs and users. 

Another advantage of MEV is that collaterals are always liquidated on time, which leads to more security in lending protocols, in which positions are less likely to go into ‘bad debt’ territory, i.e., a situation in which a given loan would become undercollateralized. 

The challenges posed by MEV 

Several challenges stem from the prevalence of MEV practices in DeFi that are represented by a number of practices, such as front-running and sandwich trading

Front-running is a practice in which block producers or validators are on the lookout for profitable large trades. Once such a trade is observed, they attempt to change the price of a traded asset to a less favorable one for the user by inputting their own transaction before the user’s initial transaction in order to make a profit. Usually, it is accompanied by back-running, hence resulting in so-called sandwich trading. 

Although, we must acknowledge that this is only partially correct in the world of automatic market-making DEXes. A helpful non-technical intuition here would be that builders/arbitrageurs that take advantage of MEV try to quickly buy a given asset and resell it to the user at a slightly higher price.

The MEV exploiter benefits from users trading at suboptimal prices, resulting in an environment that is not beneficial for the ecosystem. In this case, there’s no incentive compatibility, as the block producer works to his own benefit at the cost of the rest of the community. 

Implementing the system

The mentioned solutions are to be implemented on the Aleph Zero network, although the exact details of our mechanisms that prevent the negative effects of MEV are still in the fine-tuning process, which might bring some subtle changes.

The core development team aims to make Aleph Zero a healthy ecosystem with highly scalable technology, privacy-preserving features, and mechanisms that ensure the maximum possible security. MEV is a problem that still impacts the blockchain industry, one that we aim to solve through Liminal, Aleph Zero’s privacy-enhancing solution.

We are confident that its unique properties will incentivize the positive aspects of MEV while eradicating the negative side effects that have impacted the crypto space for much too long.

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