Bessie Liu

Concerns around possible censorship of Ethereum transactions was prevalent in the weeks leading up to and after the Merge, but the latest data shows that this upward trend may be reversing.



The Merge introduced changes to the process of block building alongside the transition from proof-of-work to proof-of-stake, that introduced some risk of centralization, particular with respect to MEV — or maximum extractable value.



Tracking site <a href="https://www.mevwatch.info/" target="_blank" rel="noreferrer noopener">MEV Watch</a> reveals that the percentage of censored blocks has dropped from its all-time high of 79% to roughly 70% over the past month. Anything less than about 99%, means Ethereum remains censorship free.



MEV refers to the maximum amount of income that can be earned by validators from the automated process of re-ordering transactions for inclusion in a block.



If MEV in a block exceeds standard <a href="https://www.blockworksresearch.com/glossary#block-reward" target="_blank" rel="noreferrer noopener">block rewards</a>, validators may choose to re-organize a block to capture the income generated by MEV for themselves. 



In order to prevent malicious MEV practices, validators choose to use MEV-Boost relays which allow them to request blocks from a network of builders.



But after the US Treasury’s Office of Foreign Assets Control (OFAC) <a href="https://blockworks.co/tornado-cash-sanctions-expose-potential-defi-achilles-heel" target="_blank" rel="noreferrer noopener">sanctioned crypto privacy service Tornado Cash</a>, popular MEV-Boost realy provider Flashbots — which is based in the US — decided to remain OFAC-compliant, meaning it would ignore any transactions which were restricted by OFAC.



That alone is not enough to censor Ethereum, although it can delay some transactions, Uri Klarman, CEO of relay provider bloXroute Labs previously told Blockworks.



“If I had an OFAC-restricted transaction, it [would] take more time for my transaction to be included, but eventually a validator, which isn’t ignoring [OFAC transactions] would include it,” Klarman said.&nbsp;



Nevertheless, the concern within the Ethereum community is that if the proportion of censored blocks were to become too high, <a href="https://blockworks.co/news/ethereum-is-not-under-attack-understanding-mev-boost-relays" target="_blank" rel="noreferrer noopener">it could threaten</a> a fundamental ethos of Ethereum — credible neutrality — as well as a desirable feature of most public blockchain networks: censorship resistance.



Coming up with technical solutions to preserve these values is a major goal of the Ethereum community.



<h3>Developing SUAVE</h3>



Ethereum developers have also launched a new project to combat censorship.



Dubbed SUAVE, short for “Single Unifying Auctions for Value Expression,” the project aims to decentralize block building itself.



SUAVE was <a href="https://blockworks.co/news/ethereum-is-not-under-attack-understanding-mev-boost-relays" target="_blank" rel="noreferrer noopener">first teased </a>at Devcon, the Ethereum foundation’s annual conference, where Philip Daian, a Flashbots steward, said its latest technology would “make TradFi look embarrassing.” The project&#8217;s latest vision was unveiled in a <a href="https://writings.flashbots.net/the-future-of-mev-is-suave/">blog post</a> on Nov. 22. 



At a high level, SUAVE will be a new blockchain that acts as a plug-and-play <a href="https://www.blockworksresearch.com/glossary#mempool" target="_blank" rel="noreferrer noopener">mempool</a> and decentralized block builder for other blockchains. 



“SUAVE goes beyond sequencing for a single blockchain. We designed SUAVE to be the mempool and block builder for all blockchains,” Hasu, pseudonymous strategy lead at Flashbots <a href="https://twitter.com/hasufl/status/1595492568157937665" target="_blank" rel="noreferrer noopener">tweeted</a>.  



Through building a decentralized sequencing layer, the Flashbots team wants to “give domains control over their own validation guarantees and ensure smaller domains stay decentralized.”



Domains <a href="https://twitter.com/natanb55/status/1469103889056256005" target="_blank" rel="noreferrer noopener">means</a> any combination of layer-1 or layer-2 blockchains, but also side-chains, shards, and even centralized exchanges.



Flashbots does not intend to participate in the marketplace beyond bootstrapping, the company noted.&nbsp;



“We consider this strategy the most aligned with our mission and the health of the entire ecosystem,” the company said.



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Ethereum Reverses Post-Merge Censorship Trend

<div id="highlights-block_6352c6431a391" class="highlights">
 <ul>
 <li>52% of blocks from MEV-boost relays enforced OFAC sanctions in the past seven days</li>
 <li>81% of the MEV-Boost relay market is dominated by Flashbots</li>
 </ul>
 
</div>



<a href="https://cms.blockworks.co/flashbots-has-a-new-plan-make-tradfi-look-embarrassing/" target="_blank" rel="noreferrer noopener">Flashbots</a> — a research and development company vying to reduce the harm of Maximum Extractable Value (MEV) — has been at the center of centralization and censorship concerns since Ethereum’s <a href="https://cms.blockworks.co/ethereum-switches-to-proof-of-stake-after-7-years-of-work/" target="_blank" rel="noreferrer noopener">move from proof-of-work to proof-of-stake</a>.



MEV is extra revenue that can be made by rearranging the order of transactions in a block. It can emerge in the blockchain several ways, but most commonly through decentralized exchange (DEX) arbitrage.



If two DEXes offer the same token at different prices, for example, one can buy the token on the lower-priced DEX and sell it on the higher-end DEX with, in theory, zero risk.&nbsp;



Such opportunities are uncovered by “searchers,” blockchain participants running complex, on-chain algorithms. The setup is intended to submit profitable trades to a public mempool on the protocol to await validation.&nbsp;



Some searchers also use algorithms to run generalized front-runners — bots that detect profitable transactions in the public mempool and replace the existing address with their own transaction — fundamentally receiving the original searcher’s MEV.



This is where Flashbots comes in. To prevent other searchers from frontrunning transactions, the organization developed a tool — MEV boost — that allows its clients to directly submit MEV transactions to validators without having to reveal them to the public mempool.



Flashbots, or any other MEV-boost relay, acts as a mediator between block proposers and block builders, Friederike Ernst, chief operating officer at Gnosis — a decentralized infrastructure company and the co-host of the Epicenter Podcast — told Blockworks. 



Proposers will indicate how much they would be willing to bid for a block, then, once the highest bidder is secured, builders generate the block and send them off to validators. The problem, however, is that, so far, there are very few builders — leading to a centralization of builders in the ecosystem, Ernst said.



“In principle, this has been a particularly big issue since the Merge,” Ernst said.&nbsp;



Ethereum validators must have security deposits of at least 32 ETH (roughly $41,000) to run a dedicated staking node on the blockchain.&nbsp;



In an ideal world, a greater distribution of solo stakers would be able to mitigate centralization and bolster security. But ETH holders often have neither enough money, nor technical expertise, to operate a validator in such a fashion.



Solutions such as Rocket Pool can allow <a href="https://rocketpool.net/#stake-run-node" target="_blank" rel="noreferrer noopener">decentralized staking</a> with 16 ETH (soon as little as 8 ETH), and simplify the staking process, while others participate in staking pools such as those provided by <a href="https://lido.fi/" target="_blank" rel="noreferrer noopener">Lido</a> and <a href="https://stakewise.io/" target="_blank" rel="noreferrer noopener">StakeWise</a>, or centralized exchanges acting as custodians powering nodes via customers’ ether. 



MEV extraction is resource-intensive, and therefore is at risk of increasing validator centralization post-Merge, <a href="https://ethereum.org/en/developers/docs/mev/#validator-centralization" target="_blank" rel="noreferrer noopener">according to the Ethereum Foundation</a>, as validators earn less without it.



This, combined with Flashbots’ decision to remain OFAC-compliant after the US Treasury <a href="https://cms.blockworks.co/tornado-cash-sanctions-expose-potential-defi-achilles-heel/" target="_blank" rel="noreferrer noopener">sanctioned</a> crypto mixing service Tornado Cash, has caused the wider Ethereum community to question if the world’s second-largest cryptocurrency is <a href="https://twitter.com/koeppelmann/status/1580893089077809153" target="_blank" rel="noreferrer noopener">under censorship attack</a>.



<figure class="wp-block-embed is-type-rich is-provider-twitter wp-block-embed-twitter"><div class="wp-block-embed__wrapper">
<blockquote class="twitter-tweet" data-width="550" data-dnt="true">We reached another sad milestone in censorship: 51% This means if the censoring validators would now stop attesting to non-censoring blocks they would eventually form the canonical, 100% censoring chain. <a href="https://t.co/JrYUjowLpt">pic.twitter.com/JrYUjowLpt</a>&mdash; Martin Köppelmann 🇺🇦 (@koeppelmann) <a href="https://twitter.com/koeppelmann/status/1580893089077809153?ref_src=twsrc%5Etfw">October 14, 2022</a></blockquote><script async src="https://platform.twitter.com/widgets.js" charset="utf-8"></script>
</div></figure>



As the largest MEV-boost relay, Flashbots — which dominates nearly <a href="https://www.mevboost.org/" target="_blank" rel="noreferrer noopener">81%</a> of the market — is delaying transactions, including sanctioned Tornado Cash wallets — meaning transactions that interact with addresses related to the crypto-mixer are effectively banned from Flashbot blocks.



Over the past seven days, <a href="https://www.mevwatch.info/" target="_blank" rel="noreferrer noopener">52%</a> of blocks from MEV-boost relays enforced OFAC compliance. 



Flashbots co-founder Stephane Gosselin stepped down from his position during this time “following a series of disagreements with the team.”



“It is crucial for there to be a diverse and competitive MEV ecosystem to preserve censorship resistance and other values that make our industry so exciting,” Gosselin <a href="https://twitter.com/thegostep/status/1578520702574960640/photo/1" target="_blank" rel="noreferrer noopener">tweeted</a>.



Although it is unclear if censorship resistance concerns are what ultimately led Gosselin to leave Flashbots, the founder did post a poll on Twitter asking if censorship needed to be solved technically or politically.



<figure class="wp-block-embed is-type-rich is-provider-twitter wp-block-embed-twitter"><div class="wp-block-embed__wrapper">
<blockquote class="twitter-tweet" data-width="550" data-dnt="true">Does censorship need to be solved technically or politically?&mdash; Stephane (@thegostep) <a href="https://twitter.com/thegostep/status/1580181830632103936?ref_src=twsrc%5Etfw">October 12, 2022</a></blockquote><script async src="https://platform.twitter.com/widgets.js" charset="utf-8"></script>
</div></figure>



Gosselin did not respond to a request for comment.&nbsp;



<h3>Steady on a slippery slope</h3>



All in all, however, Ethereum developers, for the most part, say censorship anxieties are exaggerated.&nbsp;



Uri Klarman, CEO of bloXroute Labs, a blockchain distribution network, told Blockworks that although more validators are turning to tap MEV boosts — and almost all them are using the Flashbots relay system — Ethereum will not likely turn into a censoring blockchain.&nbsp;



“If I had an OFAC-restricted transaction, it [would] take more time for my transaction to be included, but eventually a validator, which isn’t ignoring [OFAC transactions] would include it,” Klarman said. “I would get a worse user experience — the transaction would take longer to be executed, but it will still be executed.”



Still, Klarman said, in an ideal situation, validators should not be able to censor at a building level at all. That’s a sentiment shared by Ernst.



“I would take the view that maybe extracting MEV is a bad thing and we should preclude this,” Ernst said. “By large, transactions on Ethereum are not encrypted, and we run into an issue where validators in principle can be opinionated about which transactions to include — and can push their own interests.”



Although Ernst does not think validators should be legally faulted for serving their own interests, she added, “morally, you can [fault them].”



“What we need to do is make sure validators don’t know what they’re signing,” she said. “We need to come up with a way to obscure the transactions that they’re signing from validators themselves.”



Ernst’s concerns have not gone unnoticed.&nbsp;



The Ethereum Foundation is looking into solutions to resolve blockchain censorship through the <a href="https://notes.ethereum.org/@vbuterin/pbs_censorship_resistance" target="_blank" rel="noreferrer noopener">proposer/builder separation (PBS)</a>. 



PBS is an evolving research area for Ethereum developers where block building and block proposing are assigned different roles within the network.



Similar to what Ernst suggested, a validator would simply accept a block with the highest bid without seeing the content of the block body until it wins the bid. This way, MEV cannot be controlled by parties ordering block transactions.&nbsp;



Hybrid PBS is another proposed solution. In this model, there would be a witness who will be added as an intermediary node to prove the balance and nonce of the transaction sender. This would allow validators to statelessly verify blocks — meaning they no longer need to keep track of balances, deployed smart contracts, and associated storage within the entire transaction history.



The long-term goal of PBS is for it be protocol-native in Ethereum but a number of challenges still need to be addressed before PBS can be brought into use.



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Ethereum Is Not Under Attack: Understanding MEV-boost Relays

<div id="highlights-block_634dba27c3ba7" class="highlights">
 <ul>
 <li>SUAVE has been in the works for over a year, according to Flashbots developers</li>
 <li>Further details about the project will be announced this week</li>
 </ul>
 
</div>



Flashbots, a research and development organization <a href="https://cms.blockworks.co/new-flashbots-upgrade-could-revolutionize-crypto-markets-after-the-merge/" target="_blank" rel="noreferrer noopener">with the goal to reduce</a> the potential harms of Maximum Extractable Value (MEV), revealed a new project to address centralization and censorship concerns on MEV extraction for Ethereum and Ethereum virtual machine-compatible blockchains.



The project, <a href="https://twitter.com/hasufl/status/1580983853824765952" target="_blank" rel="noreferrer noopener">code named SUAVE</a> which stands for “Single Unifying Auctions for Value Expression,” will be an open-source MEV-aware, privacy-focused, encrypted mempool for users and wallets, Philip Daian, a Flashbots steward said at Devcon Bogotá.



“We’re going to provide optimal user execution that harnesses MEV,” Daian said. “So we’re going to use MEV as this decentralized engine in the long term, to make sure the users get really the best execution on their trades in a way that’s really going to make TradFi look embarrassing very shortly.”



<h3>What is the SUAVE vision for MEV?</h3>



MEV refers to the maximum amount of income that can be extracted from block production after validators include or reorder transactions on a block.&nbsp;



If the MEV available in a block exceeds standard block rewards, validators could then reorganize the blocks to capture the value of the income generated by MEV for themselves, making it a risk for exploitation and centralization.



Flashbots has been actively working on reducing these problems through MEV-Boost, software that enables builders to auction blocks to validators and prevent MEV centralization by allowing each party to earn a contribution for their efforts.&nbsp;



SUAVE’s goal is to decentralize and democratize MEV-Boost by making it open source and widely available, even to competitors and users.



The overarching goal is to avoid entrenching centralized forces, such as private or exclusive order flow into the way relays and block builders do business, Daian said, “because these will destroy the system that we love, as a whole.”



<h3>Risk of centralization and a decentralized solution</h3>



After the <a href="https://cms.blockworks.co/tornado-cash-sanctions-expose-potential-defi-achilles-heel/" target="_blank" rel="noreferrer noopener">Tornado Cash sanctions</a>, Flashbots, a US entity, began omitting transactions related to the <a href="https://cms.blockworks.co/crypto-mixers-and-privacy-coins-can-they-resist-censorship/" target="_blank" rel="noreferrer noopener">cryptocurrency mixer</a> to remain OFAC-compliant. That’s led to a new worry — censorship.



As one of the largest MEV-Boost relays, Flashbots has the power to delay the incorporation of sanctioned transactions into Ethereum blocks — or slots as they’re now known, following the proof-of-stake consensus switch.



Flashbot’s avowed obligation to follow regulatory requirements has caused concern <a href="https://twitter.com/koeppelmann/status/1580893089077809153" target="_blank" rel="noreferrer noopener">among some</a> in the Ethereum community. But the consensus among developers seems to be that the concerns are <a href="https://twitter.com/basilesportif/status/1581906143538221058" target="_blank" rel="noreferrer noopener">mostly overblown</a>.



The Flashbots team is well aware of the potential pitfalls, and Daian said Flashbots “[does] not intend to impose our utility functions, or our legal risk analyses, on the Ethereum network, full stop.”



Indeed, the launch of SUAVE — a project that the Flashbots team has been working on for over a year — is expressly aimed at distributing the power of MEV, even if that means helping Flashbots’ competitors.



Further details about SUAVE are expected this week.



Macauley Peterson contributed reporting.



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Flashbots Has a New Plan: ‘Make TradFi Look Embarrassing’

Sebastian Sinclair

Macauley Peterson

<div id="highlights-block_633582cf84ede" class="highlights">
 <ul>
 <li>Labrys said it has been internally tracking protocol censorship since the merge and was troubled by what it has found</li>
 <li>Practically this is not problematic if censorship free blocks are simply delayed for a brief period of time, according to Ethereum co-founder Vitalik Buterin</li>
 </ul>
 
</div>



Following Ethereum network&#8217;s transition to Proof-of-Stake (PoS) earlier this month, a new addition to the ecosystem is already sparking censorship concerns in some circles.



Australian blockchain development agency Labrys told Blockworks that roughly 25% of new blocks added to the Ethereum chain post-Merge currently adhere to the Office of Foreign Asset Control’s (OFAC) requirements.



Labrys said it has been internally <a href="https://www.mevwatch.info/" target="_blank" rel="noreferrer noopener">tracking</a> protocol-level censorship since the Merge and was troubled by what it had discovered.



“It is concerning to see how quickly the potential for censorship has grown unchecked since the Merge and it’s projected to get much worse,” Labrys’ CEO Lachlan Feeney said. “It is critical for the long-term success of the entire blockchain industry, not just Ethereum, that layer-1 blockchains remain credibly neutral.”



<h3>Block building under proof-of-stake Ethereum</h3>



Under PoS, Ethereum users who hold more than 32 ETH can stake their ETH in a validator and earn a staking yield.&nbsp;



While staking can prove profitable, one way to increase returns is via a software add-on to take advantage of the Maximum Extractable Value (MEV) — formerly Miner Extractable Value under Ethereum’s old consensus model.



New software developed by crypto research organization Flashbots, dubbed Mev-boost, is predominant, allowing validators to increase the staking annual percentage rate by 1.5% — depending on network demand.



But there is a trade-off. When enabled, validators cease allocating which transactions go into their blocks and instead outsource block building to what is known as MEV-boost Relays, Labrys explained.



Relays are off-chain services that accept privately-created blocks by individual block builders. In turn, those builders determine which block — out of the ones their relay has received — is more profitable and submit that block to the software to be compared against the most profitable blocks other relays could build. The winning block is then proposed by the validator. 



The problem, according to Labrys, is that MEV-boost relay providers operate as regular business entities, with a large portion of them deriving from the US and thus subject to US jurisdiction.



This means censoring transactions the government doesn’t approve of, including those deriving from mixing service Tornado Cash, or disallowing transactions from sanctioned addresses under the mandate from OFAC.



Last month, <a href="https://cms.blockworks.co/tag/tornado-cash" target="_blank" rel="noreferrer noopener">Tornado Cash</a> — thought by US lawmakers to have been used to launder stolen funds linked to major hacks — was added to OFAC’s Specially Designated Nationals list, along with 45 associated Ethereum wallet addresses.



The issue is not that the relays refuse to relay blocks to Flashbots’ software, Labrys said. It’s that they’re relaying blocks that are stripped of any Tornado Cash transactions, essentially censoring these transactions and preventing them from getting confirmed on the blockchain.



<h3>No cause for alarm</h3>



Ultimately it’s up to the validators to decide whether to restrict their block proposals to those with only OFAC-compliant transactions — or any other discriminatory criteria — and validators typically work with multiple relayers, not only Flashbots.



Bloxroute, for example, offers both a “Regulated” and a “Max Profit” stream. The regulated blocks will omit transactions from sanctioned addresses, but the Max Profit option simply selects the most valuable block construction.



<blockquote class="wp-block-quote">“Validators should be making these decisions, and I’m giving them options,” Bloxroute CEO Uri Klarman told Blockworks in an interview.</blockquote>



“There is currently a lack of regulatory clarity in terms of which participants of the Ethereum blockchain need to comply with OFAC’s decisions and in what way,” director of research firm Edison Group Milosz Papst told Blockworks in an email. He said that lack of clarity was spilling over to block builders.



But Bloxroute’s legal team has concluded that playing the role of a neutral middleman and providing optionality to the validators is sufficient to fulfill regulatory requirements.



In contrast, CommodityStream Inc., a replay provider under the Manifold brand, has taken the position that packaging of transactions in a certain way is not a legal necessity at all.



“CommodityStream views government or civil requests to block content at the [Remote Procedure Call] level as ineffective, inefficient, and overboard,” <a href="https://kb.manifoldfinance.com/docs/Block-Construction/blockconstruction-policies" target="_blank" rel="noreferrer noopener">according to</a> Manifold’s documentation. The company “would pursue its legal remedies before complying with such a request.”



Ethereum’s core developers are generally not concerned — at least not yet. In a pre-Merge developer call on Aug. 18, the issue was discussed at length and the consensus was that the current MEV designs could be improved, to enhance, so-called proposer / builder separation (PBS), but were unlikely to result in censorship.



French developer Mamy André-Ratsimbazafy said uncensoring relays should give the most rewards to validators, providing a natural incentive not to censor. That’s the logic behind Bloxroute’s Max Profit service.



Flashbots itself has open-sourced its software, which will make it easier for alternative relay providers to crop up.



“If we have any open relay, then I think that censoring will fall flat on its face,” André-Ratsimbazafy <a href="https://youtu.be/jJaCaS0WbIw?t=2112" target="_blank" rel="noreferrer noopener">said on the call</a>.



At worst, the use of relayers censoring transactions from OFAC-regulated addresses would merely delay those transactions from being processed, according to Ethereum co-founder Vitalik Buterin. 



Speaking on the Aug. 18 call he noted that even if 80% of validators were running censoring software, the other transactions would still be included into the blockchain, after 5 blocks (known as &#8220;slots&#8221; in proof-of-stake Ethereum), or about a minute, on average.



“The network will not censor [transactions] as long as some proposers don’t run censorship software — the network as a whole is not censoring,” reiterated Ansgar Dietrichs, an Ethereum Foundation researcher.



It will be up to the global Ethereum community, and all its stakeholders, to ensure that this remains true in the future, as the regulatory landscape evolves.



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Is Ethereum Censorship a Concern Post-Merge?

John Gilbert

Drew Mailen

<div id="highlights-block_631a70aa5d2d0" class="highlights">
 <ul>
 <li>When validators implement an upgraded version of Flashbots (MEV Boost) after the Merge, it could revolutionize a market that collected $730 million from MEV last year</li>
 <li>This upgrade will let validators use an open-source and democratic system to maximize revenue and share MEV with stakers</li>
 </ul>
 
</div>



Finding a traditional finance parallel for Flashbots is difficult. And it&#8217;s because they represent a radical departure from the culture and practice of finance on Wall Street. They aren’t the front-running whistleblowers and they aren’t the high frequency traders (HFT).



That cat and mouse chase was rigged behind a dark veil of technological innovation — where high frequency trading was always two steps ahead of the whistleblower and regulator.



The creators of Flashbots saw a similar pattern in how traders exploited Maximum Extractable Value (MEV). But instead of calling out individual actors, they turned on the light. It won’t necessarily stop the front-running ‘<a href="https://www.bloomberg.com/news/articles/2021-09-23/crypto-trading-how-flashbots-work-to-front-run-ether-and-other-coin-purchases" target="_blank" rel="noreferrer noopener">shenanigans</a>’ as its co-founder Phil Daian puts it, but it will help the community benefit from that trading activity.&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;



As a result of the MEV Boost upgrade, Figment, <a href="https://www.figment.io/staking" target="_blank" rel="noreferrer noopener">a leading institutional staking service provider</a>, estimates validator rewards will increase up to 50% post Merge. We sat down with Figment to learn more about this paradigmatic shift. But before we explain how this new model works, we need to understand where the old failed.



<h3>The old paradigm: A culture of secrecy</h3>



Robert Ellison, head of staking marketing at Figment, listed the Wall Street front-running of 2009 as a parallel example of some of the practices today. A close examination of the struggle between those front-runners and their whistleblowers illustrates why and how the traditional paradigm was flawed.&nbsp;



In 2009, Richard Gates leaked the front-running practice of HFT firms to the WSJ and then officially to the SEC in 2010. At the time, firms were placing servers next to exchanges and utilizing Spread Network’s strategically placed fiber optic cables to execute the fastest trades. This competitive advantage gave traders the ability to manipulate the market on a massive scale. Even though the practice was only used in 2% of firms, it accounted for 73% of stock order volume.



In 2010, Gates told the SEC that he was a victim of this practice. He claimed that Credit Suisse, the operator of a dark pool called Crossfinder, was intentionally providing unfair advantages to HFT traders over retail traders like himself. In his complaint, he shared rumors that Credit Suisse would market their pool to these traders by saying, “We have sheep in the pen. All you have to do is come and slaughter them.&#8221;



In 2015, Gates applied for a whistleblower reward that would grant him between 10% to 30% of an SEC settlement against Credit Suisse. And later that year, Credit Suisse agreed to pay $84.3 million in fines.&nbsp;



But by that time high frequency traders and exchanges had moved on to new strategies. For example, the <a href="https://www.businesswire.com/news/home/20180306006797/en/Hagens-Berman-Whistleblower-Client-Haim-Bodek-Again-Helps-Lead-SEC-to-Fine-a-Stock-Exchange-14-Million-This-Time-NYSE" target="_blank" rel="noreferrer noopener">NYSE was using secret order types</a> that let a handful or firms jump ahead of other traders. New whistleblowers like Haim Bodek emerged and complaints were filed.&nbsp;



And at the time of Gates&#8217; whistleblower reward application, his own company, Powhatan Energy was facing its own complaints — amounting to $26 million in penalties. They alleged that the company intentionally exploited a loophole in the <a href="https://www.gtlaw.com/en/insights/2015/6/may-2015-brings-a-crop-of-ferc-loophole-manipulation-civil-penalty-assessme" target="_blank" rel="noreferrer noopener">PJM Interconnection LLC&#8217;s markets</a>.&nbsp;



This example shows that SEC whistleblower incentives are too vulnerable to exploitation, and its bureaucracy too slow to make meaningful change. The system of extracting maximum value (MEV) from Ethereum transactions exposes the network to very similar types of front-running operations and like the traders on Wall Street, they are constantly developing new tactics. But as you will see, Flashbots offers a solution that is philosophically opposed to the old paradigm.



<h3>Front-running MEV explained</h3>



Unlike traditional exchanges, all trades in Ethereum, like normal transactions, have to settle on-chain instead of a clearing house. But before they are settled on-chain, almost all trades enter a mempool where in the proof-of-work (PoW) protocol miners prioritize higher gas fee transactions over lower fee ones. Validators will adopt this responsibility post merge.



According to Ethereum.org, “<a href="https://ethereum.org/en/developers/docs/mev/" target="_blank" rel="noreferrer noopener">maximal extractable value</a> (MEV) refers to the maximum value that can be extracted from block production in excess of the standard block reward and gas fees by including, excluding, and changing the order of transactions in a block.”&nbsp;



Third parties called MEV searchers have developed algorithms that look for MEV opportunities in the pool of transactions. Miners who select their opportunities then share some of the profit in return. Front runners have developed their own algorithms that systematically use data in public order books and mempools to cut in line.&nbsp;



Jumping ahead of other trades in a decentralized exchange (DEX) like Uniswap gives the front-runner an advantage. In what is called a sandwich trade, the front-runner first calculates the resulting price action of the queued trade to determine profitability, executes a trade with a larger gas fee to jump ahead, and immediately sells after the previous trade is settled. They only collect a profit if the price movement is more than the gas fee they paid to jump ahead.&nbsp;



Generalized front-running is another popular approach. It looks for profitable transactions/trades in the mempool, copies them, and increases the gas fee to cut in line. Unlike sandwich trades, this approach profits from MEV instead of price action on a DEX.&nbsp;



But these tactics aren’t predictable or consistent.&nbsp;&nbsp;&nbsp;



“Folks have realized there are different ways to engage with Ethereum. Typical users may just want to transfer ETH. However, folks engaging in MEV exhibit more of a reaction to what is happening on the network. It&#8217;s iterative and reflexive. They are watching the pending transaction pool, watching what others are doing,” Clayton Menzel, Figment’s head of protocols and opportunities, said.&nbsp;&nbsp;



<h3>So what is Flashbots? A new paradigm</h3>



Flashbots is a research and development organization aimed at reducing the negative network effects of MEV.



They created an open source solution that enables miners on the POW protocol and validators on the POS protocol to more efficiently work with MEV searchers. It hosts a private auction separate from the mempool. This system doesn’t stop all front-running on Flashbots but it prevents the generalized approach by hiding queued transactions from public view.



In the new upgrade to MEV Boost, Flashbots will make this auction more efficient by introducing a third party called the builder. In this version validators would no longer work directly with MEV searchers in block production. Instead builders will work with MEV searchers to build and auction potential blocks to validators. Each party would earn a profit for their contribution. And it makes the process more efficient and fair because it takes the burden away from validators and allows more participants to benefit.&nbsp;



The brilliance of this new paradigm is that it aims to solve inefficiencies instead of punishing bad behavior. Front-running tactics on the Ethereum network will most likely always exist. But through the right incentives they can channel that behavior into a transparent and democratic system that allows more participation in the MEV market.&nbsp;&nbsp;



Instead of relying on slow bureaucratic officials to punish bad behavior, it restructures the incentives to reduce negative network effects and make MEV more decentralized. It&#8217;s not guaranteed that every validator will adopt Flashbots after the merge. But if it increases staking yields and decreases the negative network effects of MEV, validators will risk losing stakers if they don’t engage with Flashbots or an alternative MEV solution.&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;



Figment recently announced that it will <a href="https://www.figment.io/resources/figments-mev-policy-supporting-neutral-secure-and-open-solutions" target="_blank" rel="noreferrer noopener">integrate MEV-Boost</a> into its Ethereum validators. So far, they have successfully tested MEV-Boost on Goerli, the final testnet that was conducted ahead of the Ethereum Merge. So far their studies have shown that the upgrade will significantly boost staking revenue. But it will also allow Figment’s ETH customers to participate in MEV.&nbsp;



<h3>Education is still needed&nbsp;</h3>



“Education is important. Flashbots makes research available, and creates open solutions where you can see MEV extraction. It helps you see what’s going on, offering a balanced view that recognizes both positives and negatives. Education and open discussion is also important,” said Ellison.&nbsp;



There is a lot of noise and not so much signal in this space. As ETH moves to PoS, people should be making better decisions on who to work with as far as infrastructure providers go. You can see the negative aspects of MEV, and now you can make your own choices as an ETH token holder. Figment is working hard to help people make informed staking decisions. They not only published their <a href="https://www.figment.io/resources/figments-mev-policy-supporting-neutral-secure-and-open-solutions" target="_blank" rel="noreferrer noopener">MEV policy ahead</a> of the Merge, they also hosted a <a href="https://twitter.com/Figment_io/status/1561726646239072257?s=20&amp;t=PKlQxEI3fetuycN8chW2lQ" target="_blank" rel="noreferrer noopener">Twitter space</a> to help their community better understand the changes.&nbsp;



Currently there is no pressure for miners to share MEV rewards. Validators, on the other hand, arguably face higher reputational risk. As a result, once validators take over for miners post merge, competition is more likely to result in MEV rewards being shared around more broadly than they are today.



This content is sponsored by Figment.



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