At the beginning of the year, Newgate launched its own block builder for the Ethereum network, payload.de. In this article, we aim to explain the role of a block builder in the context of new challenges in the ecosystem and highlight the importance for robust block builders in response to the growing user activity on the Ethereum blockchain.
The Merge and Proposer-Builder Separation
In September 2022, The Merge has happened on the Ethereum blockchain. A pivotal event in Ethereum's development, where the blockchain transitioned from its previous Proof of Work (PoW) consensus mechanism to a more energy-efficient and sustainable Proof of Stake (PoS) mechanism. This transition involved merging the existing Ethereum 1.0 chain with the Beacon Chain, which was running in parallel and already operated on PoS. The Merge laid the foundation to enhance Ethereum's scalability, security, and sustainability, reducing energy consumption and allowing for greater transaction throughput with the next updates.
With this change, the role of the miners became obsolete since there are no longer any base rewards for new blocks and priority fees became the sole source of income for validators. In fact, over 82000 ETH have been burned since the Merge , turning ETH deflationary. A new concept, Proposer-Builder Separation (PBS) was introduced as part of Ethereum's transition. In the PoS system, validators propose and attest to blocks rather than miners computing hashes to append new blocks as in PoW. Under the Proposer-Builder Separation model, the process of creating and proposing new blocks is divided on a high level into two distinct roles:
- Builders: They are responsible for aggregating transactions, assembling them into blocks, and optimizing the transaction ordering. Builders receive transaction fees as an incentive for their work. In theory, any user or service can bundle transactions into blocks and become a builder.
- Proposers: They are chosen from the set of validators in the PoS system, which have staked a significant amount of ETH. Proposers are responsible for proposing the blocks from builders to the blockchain. A proposer receives the block reward forwarded by the builder which usually corresponds to priority fees paid by the users for their transactions.
This separation of roles provides a more efficient and secure system, as it enables specialization and better handling of network congestion. Furthermore, it helps mitigate certain risks, such as validator centralization, which could result in a single entity gaining too much control over the network. In contrast, in Ethereum 1.0, a single miner received the full reward for a block, determined the transaction ordering, and was often able to extract additional rewards, leading to the term Miner Extractable Value.
Miner Extractable Value
Miner Extractable Value (MEV), or now called, Maximum Extractable Value refers to the amount of value that network participants can extract from a given transaction through various means:
- Frontrunning - placing own transaction before the target transaction
- Backrunning - placing own transaction after the target transaction
- Sandwiching - the combination of frontrunning and backrunning, placing own transactions before and after the target transaction
The entities that compile these transaction bundles are called searchers, who can be any network participant monitoring public transactions on the blockchain. While MEV is not unique to Ethereum, it has become particularly prevalent on the Ethereum blockchain due to its popularity and the diversity of its smart contracts.
One of the main issues with MEV on Ethereum is frontrunning, which happens when a participant on the network takes advantage of their knowledge about an upcoming transaction to place their own transaction ahead of it. Frontrunning can take place in various ways, but it generally puts the user at a disadvantage.
On a protocol level, frontrunning is generally observed in so-called "sandwich attacks”. In a sandwich attack, a searcher identifies a user transaction which trades a token on the blockchain with significant market impact and high slippage tolerance. The attacker then places his own transaction to trade in the same direction as the user in front of the target transaction to deteriorate the price and closes the position after the user's trade, to gain the price difference as reward. For example, if a user is about to buy token A for ETH, someone might buy a specific amount of token A before the user, to immediately sell the acquired amount of token A afterwards, effectively enclosing the user transaction and profiting at his/her expense.
This type of behavior is considered unethical and illegal in traditional markets. Decentralized markets, on the other hand, have not yet been subject to such regulations, which makes these actions highly questionable and potentially unlawful in the future. Furthermore, the prevalence of frontrunning can create several other issues for the Ethereum ecosystem, including market inefficiencies, reduced liquidity, and increased transaction fees.
Avoid getting frontrunned
The standard way of submitting transactions to the blockchain is by broadcasting them into the public mempool, which makes the transaction visible to all network participants. As a result, anyone can view the transaction details, including the amount transferred and the account addresses involved before the transaction is actually written to the blockchain. This is the standard procedure for most wallet applications (such as Metamask, Trust Wallet, MyEtherWallet, etc.) used by the majority of Ethereum users.
A smarter alternative is to use private transactions, which are not broadcasted to the public mempool and are kept secret until they are directly written to the blockchain by the block builder. Unfortunately, the option to send private transactions is widely unknown and disregarded by most users interacting with the Ethereum blockchain. Especially when executing trades on-chain or using other smart contract functionalities that are subject to frontrunning, it is highly recommended to use private transactions to avoid falling victim to the aforementioned attacks. Flashbots  is an existing provider for private transactions, while our builder, payload.de, also offers this functionality. Moreover, it is possible to use the payload.de endpoint in conjunction with Metamask, making the integration quite seamless. More information can be found in the respective documentation.
At Newgate, we also use private transactions to operate our asset management directly on-chain. The payload.de block builder was created in response to the need for a secure and predictable way to execute transactions on the Ethereum blockchain. We anticipate that the network activity will increase in the coming years and our objective is to continually improve our service and contribute to this thriving ecosystem. For updates on our block builder, you can follow us on the payload twitter page.