Blockchain
Maximum Extractable Value (MEV) refers to all the money that can be gained by reordering, viewing, adding, including, or excluding transactions within a block. The vast majority of MEV takes place through decentralized exchanges (DEXs) such as Uniswap.
In all financial markets, the order of trades is one of the most important determinants of price – think of quants placing nearby exchange servers with fiber optic cables to ensure their orders are filled first.
Very often, discussions of MEV involve the parties responsible for confirming transactions for ERC-20 tokens on Ethereum, which can lead to issues such as validators complicit with trading bots. Digital asset market participants have other ways to extract MEV using the different types of maximum extractable value.
Here are the four types of MEV:
Sovereign MEV
Blockchain communities can try to control their own MEV via sovereign MEVwhich refers to setting protocol rules for MEV extraction, such as which MEV extraction tactics are allowed – and where MEV can accumulate.
A protocol’s community can decide who and what to prioritize through sovereign EIA practices, often with consequences for breaking these rules. For example, some blockchains with sovereign MEV rules can penalize an abusive validator, such as evicting pool users who move to another staking platform or validator. Others let the community decide who gets the MEV or how MEV is generated.
Read more: Ethereum is trying to reduce MEV with blockers and discounts
Internal MEV
Internal MEV refers to MEV generated directly on an application specific blockchain or ‘appchain’. This form of MEV allows application developers to set rules that contain the acceptable methods for capturing MEV. It can use atomic arbitrage, a trading strategy that simultaneously places a buy order on one trading venue and a sell order of a similar amount on another trading venue.
CeFi-DeFi MEV
CeFi-DeFi MEV uses a form of arbitrage that exploits the differences between centralized exchanges and decentralized finance apps. An asset’s price is usually updated on centralized exchanges before on-chain pools and DEX liquidity providers can reposition.
CeFi-DeFi MEV is one of the largest generators of MEV due to activities of arbitrage traders.
Interchain MEV
Interchain MEV exploits the idea that most blockchains operate in ‘silos’ that prevent them from naturally ‘seeing’ what is happening on other blockchains. For example, the Bitcoin network cannot (other than using third-party oracles) “see” transactions on the Ethereum blockchain.
With Interchain MEV, traders who can analyze cross-blockchain data can take advantage of trading assets between blockchains through bridges or DEXs. Interchain MEV and associated arbitrage tactics are most common in cross-domain blockchains such as Cosmos.
MEV is inevitable
Even Ethereum founder Vitalik Buterin has admitted that MEV will always exist in Ethereum. Validators can always select the higher-cost transactions, even if those transactions come from obvious front-running or sandwich attackers. MEV traders use a variety of arbitrage and other techniques to maximize profits.
On the bright side, developers can figure out ways to control MEV by adding rules about who can get the rewards and how users can get MEV out of their blockchains through sovereign MEV practices.