ORIGINAL AUTHOR: ZHEV

Original compilation: Ladyfinger, Blockbeats

*Editor's note: With the rapid expansion of the Decentralized Finance field, Solana Blockchain is becoming a new hotspot for Decentralization applications with its high-performance architecture and innovative technology. However, with the surge in economic activity, the Solana fee market and MEV issues have gradually come into the spotlight of the community. *

*This article delves into Solana's fee market design, challenges, and potential impact of MEV on its ecosystem, while comparing Ethereum's experiences and strategies. We invited technical expert Zhev, who previously gave an in-depth technical explanation of AMMs and other Decentralized Finance primitives on his substack to provide us with unique insights into the Solana fee market and the future of MEV. In this article, we'll take a look at how Solana is tackling the growing rise MEV challenges while maintaining its high-performance benefits, and explore the possible direction of its expense market. *

Introduction

The rise of Solana has expanded the Decentralized Finance space. We've been watching from afar, but we've never offered a new perspective. However, the frenzied activity on Solana over the past few months has provided us with a new opportunity to see where it sits in the market, and how it might evolve. Zhev has previously written technical explanations of AMMs and other Decentralized Finance primitives on his own substack. This month, we partnered with him to take a deep dive into Solana's fee market. MEV is already dominating Ethereum's fee market discussions, and as Zhev explores below, it will soon be dominant on Solana as well.

Money Laundering is necessary to support the most basic activities on the Blockchain because they enable users' transactions to gain validity and be included in a single block. The main purpose of these fees is to stop spam, and it is also part of the subsidy paid to validators to build/verify Block. In a sense, these network fees are similar to rent; users pay a fee to access a limited number of goods per unit of time. The product here is the "Block short room", that is, the short room on the Block.

Here, we evaluate the two largest smart contracts Blockchain, Ethereum and Block short on Solana. As we dug deeper, we learned that the fee market, both designed within the protocol and grown organically from the ground up, enabled validators to take advantage of their access to Block short.

Solana's fee market long wick candle is optimized for high performance and aims to avoid the problems that arise in the Ethereum approach. However, while Solana's market may ultimately be more efficient than Ethereum's, it will still need to go through a similar MEV revolution to its peers (where validators are starting to take advantage of their privileged position). Solana doesn't have to go the Proposal Builder Separation (PBS) route chosen by Ethereum, but it needs to identify a comprehensive approach to stabilizing its fee market over the long term.

The basics of Block short valuation

Before we dive in, let's try to understand how Block short value is roughly determined.

There are both technical aspects and social aspects (basically the coordination of the parties that give value to the Blockchain). From a technical point of view, Blockchain can adjust Block Size, Block Time, and Block Production and Propagation Mechanism. The chart below provides a more detailed description and comparison of Ethereum's approach to Solana.

The social aspect refers to the coordination of Blockchain stakeholders to achieve the technical and financial goals of the chain. It can also be seen as the social status of Blockchain, which, while subjective, is an important measure. Social pressures are just as effective as building a specific culture of problem-solving, and both Solana and Ethereum have built such cultures. Examples of recent discussions around the social layer include the debate over whether to increase Ethereum's gas cap and issuance per epoch, and the recent closure of Jito's mempool on Solana.

Now, let's review and contrast the fee markets for Ethereum and Solana in more detail.

Summary of Ethereum's fee market

Ethereum's popularity is largely due to its execution environment: the Ethereum Virtual Machine (EVM), which enables smart contracts. Another factor is that the permissionless nature of Ethereum has generated a variety of innovative applications over longest cycles: the ICO boom of 2017-2018, the Decentralized Finance Summer of 2020, and the NFT mania of 2021-2022. The continued presence of these apps creates value for validators, and they provide a Block short for these activities.

Shortly after the surge in economic activity on Ethereum, miners (which was a few years before the shift to PoS) began exploring how to use their position as block proposers to insert their own transactions when arbitrage opportunities arose.

Phil Daian was the first to document such an event. He was the first to document this activity in his seminal paper published in 2019 (Flash Boys 2.0) (which we now call MEV). At the time, Ethereum's fee market only allowed higher gas prices as a way to incentivize transaction inclusion. These preferred gas auctions (PGAs) clogged the Ethereum network and raised gas prices until Flashbots (co-founded by Daian) launched. This creates a marketplace for Miner where they can pay the transaction inclusion fee through searchers, who are on-chain Arbitrage traders. Ethereum researchers then realized that MEV extraction could be more powerful than protocol fees.

Perhaps the biggest change to the Ethereum fee market is EIP-1559, which creates a base fee (dynamically determined per epoch, blocking spam, burning), as well as a priority fee (used to show urgency or specify a preference, and paid to block proposers to include transactions). An important point is that "priority fees" are functionally different from "tips". The former ensures the inclusion and intermediary by the underlying chain, while the latter ensures sorting as well as the inclusion and intermediary by the fee market.

Ethereum's approach is always evolving; check out our two-part deep dive into MEV last fall. This happens through a combination of social layers that attempt to decentralize a centralized MEV industry, as well as the technology layer, where MEV is now a key part of the technology roadmap (which Vitalik calls "The Scourge").

The mechanics of Solana's fee market

Solana takes a very different approach when it comes to Blockchain architecture, especially when it comes to scalability.

Some of Solana's notable innovations include:

1. There is no universal memory pool: In Solana, transactions are forwarded directly from the initiating client to the leader who is currently responsible for generating blocks, so there is no need for a memory pool. This theoretically reduces the latency of transaction confirmations, but in practice this is not always the case due to "jitter" (i.e., different processing times experienced by different validators when processing a transaction or block).

2. State isolation: The lack of memory pool extension makes transactions on its dAPP more independent of each other. This approach is similar to the concept of "adding more long lanes to divert traffic", where different types of transactions on Solana must follow a specific "path", from the user to the leader, in order to be added to the Block.

3. Parallel Execution: Solana is able to process non-overlapping transactions in parallel in the same block at the same time. This is due to two factors:

• Solana's Block Production is (roughly) sequential because the Leader is expected to add transactions to the Block when they are received.

• Slot Leaders are fixed because they are pre-arranged in the queue, and these Leaders are also responsible for producing four Block in a row.

These two factors, combined with Solana's state isolation, make transactions "longer". This is where the leader of the current epoch schedules longest transaction packages to be confirmed at approximately the same time (provided that transactions in the same thread do not change the same state) in the same way and at the same time.

Solana's Fee Market: Cheaper ≠ Better

Network fees on Solana are usually very low (although they have risen with recent demand). In contrast to Ethereum, Solana has a static base fee metered in lamports. Its priority fee is then metered in micro-lamports per requested unit of compute.

This means that while fees scale algorithmically as complexity and requirements increase on the EVM, SVMs only need to increase their priority charges with simple requirements. The resulting non-dynamic technical problems are detailed here, but the gist is that pricing commodities with highly volatile demand Fluctuation and certain supply in a static manner is not ideal.

Solana's Fee Market: The Inevitability of MEV

Solana's social consensus considers its low fees to be its unique advantage over other Blockchains. This approach invites spam, so some have called for higher fees or a dynamic base fee (similar to EIP-1559) during periods of high activity.

Solana's approach to date has been to implement localized fee markets in response to increased demand. Because the state is isolated, it's easy for the network to identify "hot spots" or states that are experiencing a surge in demand. This hotspot approach enables Blockchain to Algorithm Price Higher Target Money Laundering Fees for Transactions Than Other States with Less Demand. This approach is similar to the Block builder role on Ethereum that is done by a scheduler who helps place transactions in consecutive blocks based on priority fees.

As part of the implementation of the local fee market, Solana built an in-protocol scheduler that locally schedules transactions for execution on a first-in, first-out Algorithm basis. Trades are constantly streamed to the slot leader, which is then sorted according to the hints they provide.

The algorithm also requires slot leaders to share the shards they are building with some of the nodes they connect, based on the latter's stake. However, as mentioned earlier, this process is disrupted by jitter. Specifically, scheduler jitter (due to Solana randomly assigning incoming transactions to the executing thread) and network jitter (P2P Relay latency from incoming transactions and Sharding).

These "jitters" result in an uncertain order of transactions on the Solana, which makes Block short-room auctions economically viable. In other words, whenever there is jitter, validators have an economic incentive to insert or reorder transactions. For users, this means MEV leaks, and for validators, MEV profits.

Solana vs Ethereum

A quick recap of MEV-Ethereum: On Ethereum before Flashbots, MEV activity squeezed out regular Blockchain activity, driving up gas prices for all users through PGAs. On Solana, fees don't spike because it doesn't have a shared state and a global minimum price like Ethereum, but it's hard for the average user to complete transactions on Solana when activity increases. Flashbots released MEV-GETH to process PGAs, creating a separate channel for MEV value that is auctioned protocol to an in-protocol fee mechanism. In the case of Solana, Jito launched a similar product for validators, providing them with a pseudo-memory pool and a custom scheduler to order transactions in the most advantageous way. Jito's memory pool is attractive to users, providing them with guaranteed inclusion rights to be front-run (i.e., their MEV is extracted).

While a popular product, Jito's memory pool came under social pressure and shut down last month. This may be the same reason why more than 20% of Ethereum transactions run through private memory pools: users are tired of being attacked by sandwiches. Spam is now once again the only mechanism on Solana that (probariably) guarantees the execution of time-sensitive transactions. The lack of an efficient inter-Block short bidding mechanism leads to uncertainty during periods of high demand.

Because transactions on Solana are now streamed directly to the slot leader, and the priority model has been broken, the topology (and the resulting latency) is the most important component of time-sensitive transactions that users will consider.

The topology of users in the network can be understood as how far they are long from the leader, depending on their stake weight and/or the stake weight of the Node they are connected to. As a result, rational agents seek to connect with Nodes that already control high stakes, leading to centralization.

As a short-term consequence of spam, Solana is now so crowded that it is almost unusable for less skilled users due to failed transactions. As a result, addressing the long-term consequences (centralization of co-location and network shares) becomes even more important.

A more structured market?

Solana's original design philosophy centered around removing user friction and allowing the validation network to meet requirements in any way. What they ignore is that markets work best when they have some certainty about how they operate. Fee-based markets provide a way to democratize inclusion by requiring users to pay longest, shifting the problem from a topological perspective to an incentive-based one.

While this has changed the user experience, accepting the fee market, and specifically their relationship with MEV, is the best way forward for Solana and its users. Arguably, providing a cost-intensive package approach while maintaining the integrity of the chain is longer than no method at all.

In fact, on-chain activity is almost always time-sensitive, especially when agents seek to extract value at little or no economic cost. Overly deterministic execution is better than cheap probabilistic execution.

(The sample size is small, but it's still the same!!)

The specialization of the fee market allows inter-Block short bargaining and auctions to take place at a higher level away from Consensus and execution. As a result, validators can fulfill their responsibilities without worrying about how to optimize the best results of cumulative Block short value.

Solana's upcoming MEV revolution

Solana is in the midst of a chain-wide discussion about how its fee market should be restructured (which has been pondered for Ethereum long years, but remains unresolved).

Solana has yet to undergo the necessary MEV transformation. While the recent increase in on-chain activity has attracted MEV players like Jito and Ellipsis to start building MEV infrastructure, major validators have yet to cross this hurdle and start running their own Solana MEV strategies. In stark contrast, all major staking providers on Ethereum are running MEV. Solana validators community isn't as adversarial as the Ethereum community, so in order to prioritize the end-user's experience, the two sides reached a handshake protocol that doesn't extract MEV (so far).

This situation will not last; Blockchain must operate in an adversarial environment of self-interested actors. Solana may perform better than Ethereum because it can solve some MEV problems without being severely constrained by Decentralization like Ethereum. However, it must also answer some tough questions, such as, should all staked SOLs be rewarded with MEV, as Ethereum has achieved with MEV boost?

To solve Solana's congestion problem, we are already exploring some minimization mechanisms. These mechanisms include dynamic fee structures, upcoming changes to the local scheduler specification, stake-based restrictions, and other application layer optimizations. Things are moving fast. Jito's CEO recently admitted that "a small group of operators/searchers are sandwiching private mempools".

MEV is a sign of economic rise and is therefore inevitable. In fact, even Bitcoin, whose simplicity is often hailed as its greatest feature, began to undergo a reinvention after the rise of Ordinals and economic activity. The solution was chosen to ignore because negative externalities (as in Jito's case) do not eliminate said externalities, they only lead to an uncoordinated market.

The social dimension is an effective tool to discourage predatory behavior, but it can only last for a short time. Ethereum is experiencing a social inadequacy with the rise of the time game, which is a strategy for Block proponents to deliberately release their Block for as long as possible latency to maximize MEV capture. This weakens the chain's security, but makes economic sense from a validator's perspective. Shame can last for a while, but protocol research is the only long-term solution.

It's too early to say what Solana's MEV Supply Chain will look like in a few years. But one thing we can be sure of now is that a large longest of value will be captured by a large number of validators.