This is a recording of a recent Twitter Spaces conversation about Ethereum’s upcoming “Merge” from proof-of-work consensus to proof-of-stake.
Listen To The Episode Here:
Dylan LeClair: Alex B, if you wanna come talk, you’ve been covering a whole mess with miner extractable value (MEV) on Ethereum. Because there’s so many kinds of smart contract protocols, decentralized exchanges and all these automated market makers and oracles, there’s actually value to be captured by producing the blocks. For anyone that’s not familiar with Ethereum, it’s called MEV, minor extractable value. Now I guess it’s maximal extractable value. Basically these protocols, these stakers can make a lot of money, especially the ones with the best bots and the dev teams by ordering the blocks and potentially censoring them.
Checkmate: It’s a complex beast to say the least.
LeClair: And maybe not our most favorite thing, but it is fascinating. Even Danny Ryan, who’s one of the lead researchers for this proof-of-stake process for the Ethereum Foundation, said a couple months ago,. And he wrote it out. He said that liquid staking derivatives, such as Lido and similar protocols are cartel-ization and induced significant risks to the Ethereum protocol and associated pools of capital.
I mean, here we are, we’re a month out from the merge and Lido has 31% of total value staked of the proof-of-stake eth. Coinbase, Kraken and Binance are behind with 11%, 8% and 6%. Right? There’s 50%, I mean, maybe not Binance, but if you wanna include some of the other U.S. entities, there’s over half; there’s maybe 60-65% of total value staked on eth that’s captured already.
Checkmate: I think the thing that I would certainly wanna highlight, and the thing that really struck me is these things probably could be solved with education, right? People, you really should be solo staking. Here’s the guides … So helping people understand that they shouldn’t have gone on Coinbase.
A lot of people have gone on Coinbase because they were always going to. They just didn’t really know. Education is tough. A lot of people who contacted me said, “I’m not familiar enough with this stuff to understand these risks. I needed someone to explain it to me.”
To me as an engineer, I look at this thing and I go, “OK, we have a potential mitigation, which is to allow a reshuffling of the mining pools in inverted commerce. Allow that reshuffling to take place off the back of education. That’s what should happen. They should push the withdrawal code, allow people to reshuffle, negate the risk completely and then merge.
Now what are you gonna have to deal with some teasing from some bloody Bitcoiners, but come on. I mean, if all you’re worried about is a bit of reputational damage, wait until you have to slash Coinbase, because something went wrong, because you left the door open. Just close the door, put the lock on, and then do your merge. Put your body pride aside and do the correct thing from an engineering, risk management perspective.
That’s my core view. Deal with the risk before you go into it. Don’t leave them an unknown window where something can happen. Just makes no sense.
Dylan: For those that aren’t aware, Check, you’re actually an eth holder, right? I mean, you have a significant portion of your net wealth in eth right now?
Checkmate: Yeah. 20%. I’ve held. This is the thing. I’ve held it since 2020, or in fact I’ve held it from before that. But I grew it a lot, using DeFi tools. I’m well and truly versed, right? I’ve been there for dire going up and down, braking, makers, governance, all this kind of stuff. I’ve been floating around since uniswap was one Gwei.
It’s not like I don’t know what I’m talking about. I spend enough time. I’ve been around long enough to know how these things work. There’s a lot of eth maxis who just call me a bad faith actor. Well, go stuff yourself. You know, when I look at this thing from an engineering perspective: You’ve got a risk, there’s a solution pathway, fix it, then merge. Put your pride aside and stop gambling with user funds.
LeClair: I wanna say hi to Alex. Thanks for coming up, man. I think your pinned tweet is back from summer 2021 or maybe before that, but you’ve been covering this for a long time. Before I even really understood what MEV meant. You were dropping some heat, so how’s it going, man?
Alex B: Cheers. Good to be here. Thanks for the intro. This thing blew up in the last couple of months in a way that I really didn’t envision that it would get so much traction. It really felt like everything that’s been playing out has really vindicated the pieces that I laid out last year. It’s been almost a year now.
We’ve seen Lido grow almost 100% since I started talking about it. To have, like you said one of the main architects of proof-of-stake, Danny Ryan, pretty much solidify all of the concerns
LeClair: I mean, he basically just stole your thread well,
Alex B: I mean, to his credit and a lot of people did a lot of groundwork in terms of putting my thread, which was certainly a little bombastic and trollish in a more consumable format for other people to consult and try to internalize.
I was gonna say the unfortunate thing for him is his conclusion was that the only way out was pretty much for Lido to limit its growth, which we’ve seen isn’t likely to happen anytime soon.
They actually voted on that over the last month and it was a landslide in terms of Lido token voters. I think the outcome was practically 99% of Lido holders voting against that proposal. I don’t think that anything like that is gonna materialize anytime soon.
Although I empathize as well with Checkmate’s take on this and it seems like the most viable solution at least to mitigate the immediate concern, especially with what’s been playing out with Tornado Cash. This attempt to use the staking pools and the staking dynamics is effectively just kicking the can down the road.
The narrative switched to a sort of UASF/minority fork movement, but these attempts would not solve the fundamental incentive problems that has been engineered into Ethereum.
Unless they find a significant, material solution to the MEV problem, and that could be some kind of improvement that the privacy layer. I know they’re talking about some sort of threshold encryption, which would make transactions effectively private until they’re processed into a block. It couldn’t mitigate the MEV issue, but there are really two massive network effects at play: staking derivatives and the MEV extraction.
It’s hard for me to see any kind of future where, regardless of the fork, regardless of whether there a non-anti U.S. government fork that’s that gets spun off, there’s always going to be that tendency to centralize into potentially monopoly block producer, which then the U.S. government will just have to target this one next.
So it’s quite the conundrum they find themselves in right now.
Checkmate: Bitcoiners say that Bitcoin will eventually absorb all these technologies. Well, they’re showing you how they’re done, what works and what doesn’t. It’s a good opportunity to learn. The privacy thing really is the ultimate solution to this. If you can’t see the transaction, you cannot censor it because you don’t know what it is.
You also can’t extract value from it because you dunno what’s in it. So, really privacy is the only way that you can solve this. However, there’s then the realistic scenario, which is that, Bitcoin’s not having Monero privacy anytime soon and nor Ethereum. Once you’re doing that privacy layer, even if you did decide to do that, the amount of other tradeoffs as the engineering approach would describe, you’re gonna have to lose some kind of functionality elsewhere.
So this is the game; this is the trade off. There is no perfect system.