Aave, a leading decentralized finance (DeFi) protocol, is exploring the possibility of integrating a new Chainlink oracle designed to redirect profits from transaction backrunning to its users. This proposal, which was submitted on December 23rd in Aave’s governance forum, aims to address the problem of maximum extractable value (MEV) that has been plaguing the DeFi ecosystem.
What is MEV?
MEV refers to the profits made by entities that reorder transactions before they are posted to the public blockchain ledger. This can result in users losing a significant portion of their profits, as the reordered transactions often favor the entity making the changes. In the case of Aave, the liquidation bonus created for third-party liquidators provides an opportunity for MEV.
Aave’s MEV Problem
Aave allows users to borrow cryptocurrency by depositing other assets as collateral. If the value of the collateral declines too much, it is forfeited or "liquidated" to repay some amount of debt and receive the equivalent value in collateral, plus a percentage on top denominated liquidation bonus. While this has been an effective solution, Aave has identified a problem that needs optimization: MEV.
The Problem with Liquidation Bonuses
According to the proposal, the liquidation bonus creates "a very clear opportunity for MEV" and results in a "pretty significant profit for an entity that doesn’t do the majority of the job: the builder." Meanwhile, the protocol users receive way less in proportion. This disparity highlights the need for Aave to explore alternative solutions to mitigate the impact of MEV.
Chainlink’s Smart Value Recapture (SVR)
On December 23rd, Chainlink released its Smart Value Recapture (SVR) oracle service, which specializes in capturing profits from MEV. SVR sells the right to back-run Chainlink’s price-feed oracle and profit from liquidations through an MEV-Share auction. Aave estimates that SVR can capture approximately 40% of MEV profits, which could be redirected to the Aave DAO to benefit users.
Protecting Against MEV
The Ethereum network is facing a significant challenge due to the growing problem of MEV. As a result, users and protocols are scrambling to avoid the costs associated with these transactions. Private transactions have become increasingly popular, as users seek to protect their trades by sending them directly to validators instead of into the public queue.
Benefits of Integrating SVR
Integrating Chainlink’s SVR oracle service could bring several benefits to Aave users:
- Increased Profits: By capturing a larger share of MEV profits, Aave can redirect more value back to its users.
- Reduced Inequality: The integration of SVR aims to reduce the disparity between the profits made by entities that reorder transactions and those received by protocol users.
- Improved User Experience: By addressing the problem of MEV, Aave can provide a more equitable and efficient experience for its users.
Conclusion
Aave’s proposal to integrate Chainlink’s SVR oracle service marks an important step towards mitigating the impact of MEV on its users. By redirecting profits from transaction backrunning to Aave DAO, the protocol can benefit from increased revenue and improved user satisfaction. As the DeFi ecosystem continues to evolve, it is essential for protocols like Aave to explore innovative solutions that prioritize fairness and equity.
Future Developments
The proposal submitted by Aave on December 23rd is just one step in the ongoing effort to address MEV in the DeFi ecosystem. As Chainlink’s SVR oracle service continues to evolve, it will be interesting to see how other protocols respond to this innovative solution.
References
- Chainlink’s Smart Value Recapture (SVR)
- Aave’s Governance Forum
- Blocknative’s August Report on Private Transactions
- Magazine: Rise of MicroStrategy clones, Asia dominates crypto adoption: Asia Express 2024 review
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