Global securities regulator calls out MEV in DeFi, highlighting ‘unlawful’ nature

Regulators should seek to hold a provider of a DeFi product or service accountable for identifying and mitigating maximum extractable value (MEV) strategies, a global securities regulator said on Thursday.

The recommendation was part of the International Organization of Securities Commissions (IOSCO) consultation report on the sector, which included nine others aimed at providing a framework for regulators globally.

MEV refers to the total amount of value that miners or validators within a decentralized network can extract by strategically including, ordering, or excluding transactions in a block they are producing.

"The ability to reorder, insert and control transactions enables behavior that in traditional markets would be considered manipulative and illegal," IOSCO said.

The feature serves as a financial incentive for participants, allowing them to earn additional profits on top of block rewards and transaction fees.

While this creates a drive to maintain the security of a given network, it also leads to various market inefficiencies and vulnerabilities, including arbitrage and preemption opportunities, which can affect the fairness of the system.

As such, Madrid-based IOSCO said that DeFi projects that enable trading of regulated financial products and the way the trading process is designed could lessen the negative effects of MEV.

“There may be additional conflicts that would need to be addressed if the DeFi product or service provider itself had an economic interest in MEV activity,” the report reads.

Within the Ethereum ecosystem alone, the cumulative value of MEV after the merger has skyrocketed by over 19,000%, reaching over 300,000 ether (ETH), according to Flashbots panel (around $490 million at current prices) in less than a year. The pre-merger figures amounted to approximately $675.5 millionas the data shows.

While previously considered a critical feature in blockchain technology, the inherent problems have forced some to create alternative methods designed to provide greater control about the process.

The regulator's DeFi report on Thursday follows similar messages presented in May, which pointed to "market manipulation" of cryptocurrencies. among other concerns.

In addition to its MEV recommendations, IOSCO also recommended regulators require DeFi providers to address operational and technological risks while also requiring them to provide clear information about the DeFi products being offered.

Promoting cross-border cooperation between regulators and understanding the interconnection between DeFi, other crypto sectors and traditional finance should also be a key consideration, IOSCO said in its report.

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