What is the maximum extractable value (MEV)?

Maximal Extractable Value (MEV), formerly known as Miner Extractable Value(, refers to strategies that involve adding, removing, or reordering transactions when creating new blocks. MEV aims to earn as much additional profit as possible. Since block producers have the ability to select and order transactions, this strategy is particularly suitable for them.

However, other network participants (also known as searchers) can also identify MEV opportunities—such as arbitrage trades, front-running, or forced liquidations—and pay transaction fees to prioritize their transactions. MEV is common in networks supporting smart contracts, where blockchain transactions contain more complex information.

Introduction

MEV is a cryptocurrency term used to describe the deliberate addition, removal, or reordering of transactions during the creation of a new block (which will be added to a blockchain) to maximize profit. You can think of it as extracting additional value beyond standard rewards and gas fees by choosing the order in which transactions are added within a block.

MEV is often associated with the Ethereum network because Ethereum has a highly significant decentralized finance)DeFi( ecosystem. The more complex the transactions involved in a block (for example, those related to lending or trading smart contracts), the greater the opportunity for block producers to earn extra profit by deciding which transactions to add, remove, or reorder to extract maximum value.

What is MEV?

The concept of MEV was initially mainly associated with the Ethereum network, which at the time used a proof-of-work)PoW( consensus mechanism. Therefore, miners had the right to reorder or add/remove transactions when producing blocks and could extract additional value through these choices.

The term “Miner Extractable Value” emerged to explain this phenomenon of extracting as much extra profit as possible. However, in September 2022, Ethereum completed the merge, a technical upgrade that transitioned the Ethereum network’s consensus mechanism from PoW to proof-of-stake)PoS(.

As a result, new blocks on the Ethereum network are no longer created by miners but by validators. However, PoS systems are also susceptible to MEV. Since blocks are still being created, whoever chooses which transactions to add and in what order will make decisions to extract as much profit as possible from the block. Although the old concept of MEV still exists, it is no longer exclusive to miners; it now represents the maximum extractable value.

How does MEV work?

To understand how MEV operates, you need a basic understanding of the role of block producers (whether miners or validators). Block producers play a crucial role in protecting and maintaining the blockchain network; they verify transactions and add these transactions to the network in the form of blocks. Depending on the blockchain, this process is called mining or validation.

In short, block producers ensure the integrity of transactions on the network and keep it running. Without block producers, new data cannot be added to the blockchain. They are responsible for collecting user transaction data and organizing it into blocks to be added to the chain.

It’s important to note that which transactions are added to a block depends on the block producer. Logically, block producers select transactions based on profitability, meaning transactions with higher fees are prioritized. This is why users often pay higher gas fees (or transaction fees) during busy periods to ensure their transactions are prioritized. If a block producer chooses transactions with the highest fees, they will earn more profit. Therefore, transactions with lower fees need to wait longer before being included in a block.

However, there is no rule that transactions must be selected or ordered based on fees. When transactions contain more complex information (such as those involving smart contracts), block producers can add, remove, or reorder transactions to earn additional profit beyond the standard block reward and transaction fees.

For example, if a block producer chooses certain transactions over others and sorts them in a specific way, they may generate extra profit through arbitrage opportunities or on-chain forced liquidations. The essence of MEV is the process of selecting and ordering transactions to gain more economic benefit.

MEV Searchers

Although MEV might seem like a strategy solely benefiting block producers, in reality, a large portion of MEV is obtained by other participants called “searchers.” These participants use MEV-specific operations, analyzing network data to find MEV profit opportunities.

Searchers typically pay very high gas fees to block producers to ensure their MEV profit transactions and strategies are executed. Reasonably, depending on the competition for MEV opportunities, block producers can earn up to 99.99% of the potential profit from searchers’ gas fees.

For example, in arbitrage on decentralized exchanges)DEX(, it is well known that searchers often pay over 90% of their MEV income in gas fees. This is the only way to ensure that profitable arbitrage trades are executed before similar trades by others.

Common Examples of MEV

Arbitrage, front-running, and forced liquidation trades all provide opportunities for searchers and block producers to profit from MEV. The following will examine these examples in detail to illustrate the concept and operation of MEV.

Arbitrage Trading

When the price of an asset is inconsistent across different trading platforms, an arbitrage opportunity immediately arises. In the cryptocurrency space, the same token may be priced differently on two different DEXs. When a searcher (arbitrageur) notices this, they will execute trades to profit from the price discrepancy. MEV occurs when a searcher’s bot detects pending transactions and inserts its own transactions before them to extract the value offered by this arbitrage opportunity.

Front-Running

Searchers and block producers can leverage their ability to order transactions within a block to front-run a significant buy order that is still waiting in the transaction pool. When they insert a similar buy order before that transaction to get a better price before a large buy order goes through, MEV is generated, which can drive up the price of the digital asset.

This kind of MEV strategy is often called a “sandwich” strategy, where a buy order is placed before a specific price-moving transaction, and a sell order is placed after it, profiting from the price pressure on both sides.

Forced Liquidation

DeFi allows users to take out loans using deposited digital assets as collateral. If the market fluctuates and the value of the collateral drops below a certain threshold, the position will be forcibly liquidated. The involved smart contracts often pay rewards or fees to transactions that trigger forced liquidations.

This creates MEV opportunities: when a searcher or block producer running a bot detects such transactions, they can insert their own forced liquidation transaction into the block before others, extracting the reward value.

Conclusion: Pros and Cons of MEV

Since MEV participants are primarily motivated by profit maximization, MEV is a rational strategy. Some argue that MEV benefits the entire ecosystem by ensuring that inefficiencies are corrected quickly.

For example, MEV searchers compete to be the first to extract value from arbitrage opportunities, which leads to rapid price correction across DEXs. Similarly, if the staking levels become unbalanced, lending protocols do not want risky loans to go uncontrolled, so promoting MEV-driven forced liquidations encourages lenders’ funds to be repaid quickly.

However, MEV also introduces some significant issues. Techniques like front-running and sandwich attacks can negatively impact other users, forcing them to pay higher fees, suffer greater slippage, or face value losses in a zero-sum game.

Additionally, because MEV searchers actively compete to insert their transactions into blocks to capture the resulting value, this can lead to increased gas prices and network congestion.

Fundamentally, if the value of reordering transactions in the previous block exceeds the rewards and fees offered by the next block, block producers will be motivated to reorganize the blockchain to realize MEV profits, which is economically rational. However, this threatens the network’s consensus and integrity.

As the blockchain ecosystem continues to grow rapidly, finding solutions to these MEV-related issues has become a core area of research and development in the field. )$EDEN **$IDEX **