Maximum extractable value (MEV), the process by which miners and validators reorder transactions within a block to extract profit, is hindering financial institutions’ adoption of decentralized finance (DeFi) and harming individual users, according to Aditya Palepu, CEO of DEX Labs, the lead investor in decentralized crypto derivatives exchange DerivaDEX.
Palepu told Cointelegraph that all electronic trading markets suffer from maximum extractable value or similar issues inherent in information asymmetry in orders of trading transaction data.
The solution, Palepu said, is to process trades in a trusted execution environment that processes trades privately through funded vaults or other mechanisms so that order flow data is not visible before execution. He added:
“What makes them really powerful is that they can process orders privately, so the intent of the trade is never broadcast to the world before execution. They are encrypted on the client side and only decrypted within a secure enclave after being ordered.”
He said this would make front-running trades “impossible” and protect users from things like “sandwich attacks,” a form of market manipulation in which validators and miners trade before and after a user’s order in order to manipulate prices and extract profits.
The presence of MEV as the core infrastructure for cryptocurrencies and DeFi has sparked intense debate among industry executives and protocol founders as they seek to address MEV’s potential to increase centralization, increase costs, and inhibit mass adoption.
Related: How Batch Threshold Encryption Can End Extractive MEV and Make DeFi Fair Again
Institutions distancing themselves from the DeFi game hurt retail users
Palepu told Cointelegraph that the lack of transaction privacy is hindering DeFi adoption as it exposes financial institutions to market manipulation and ex-ante risks from trades being broadcast before they are executed.
“If financial institutions cannot participate effectively, everyone suffers, including retailers,” Palepu told Cointelegraph, adding that financial institutions are building the “highways and roads,” or trading infrastructure, necessary for financial markets to function smoothly.
These include non-extractive arbitrage opportunities that reduce price volatility and keep asset prices at or near the same level across exchanges, he added.
“Like any market, exchanges need vibrancy and diversity of participation,” Palepu said, adding that a lack of institutional involvement can lead to liquidity depletion, spikes in volatility, increased market manipulation and higher transaction costs.
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