Better ETH: Better Blockspace
Post subject to Legal Disclaimer: No Financial Advice
In Part 2 of Better ETH, we go over the block space market. We give some background on futures exchanges, some analytical models for how to view block space and then propose a CFTC regulated venue for providing regulated access to forward contracts as the basis to eventually being able to operate a derivatives exchange based on these physically settled blockspace forward contracts.
Note, we use the term physically as we are providing capacity. Similar contracts are electric capacity contracts, transmission (or transportation) service agreements, tolling agreements, and peaking supply contracts,
Preface on Commodity Markets
The Dojima rice market, established around 1716, is widely considered to be the world’s first organized futures exchange. Instead of directly exchanging money for rice on the spot, merchants would agree on a price and future date at which rice and money would be exchanged. This allowed farmers and consumers to hedge their risk. As a result, information about the abundance or lack of rice would travel across the country as fast as rice merchants carried it.
See Commentary Note 1 for more information on futures exchanges
He who controls the (blue) spice controls the universe
The state of crypto currently revolves around blockspace shortage and its implications for adoption the next era will revolve around blockspace glut and its implications for security. MEV will be the only fundamentals left to prop up the blockspace economy.
Demand for blockspace will go up, therefore supply will go up faster (moore’s law). The supply to ‘frontrun’ a transaction, self-censor a transaction, etc is always 1/1. We call these MEV Services. [1]
Consider demand in which approaches 1 million TPS. In this scenario we have supply in which people will not be paying for throughput & latency; they will be paying to reorder transactions. Thus we can say that there will never be enough demand for blockspace quantity: there will only be demand for blockspace priority which occurs on subsecond/atomic timescales with respect to block proposal process.[2]
Resource Bound Markets: Block Building
The greater opportunity for block building will be about products that optimize and provide access to block space and block priority. We further categorize the market for blockspace into two distinct groups:
Per-layer: raw resources (consensus, data, compute) are undifferentiated and hence subject to commoditization & disinflation.
App-specific: subject to artificial scarcity, L1-L2 sequencer integration, app specific rollups, etc.
Forward Contract for Block Inclusion
EIP 1559 ensures that builder will be unable to take up the whole block continually and there will be residual space for proposers. We use this fact to provide an alternative MEV Boost implementation that supports partial block auctions. Validators participating in the Inclusion Market can sell their blockspace in the future for ETH in the present.
CFTC and operating within the existing law
We envision the initial version of a new derivatives exchange with the basis being built on forward contracts with embedded volumetric optionality. [3] This building block provides for solving an issue with the way Ethereum transactions and settlement occurs: there is no guarantee technically that any transaction will be included and settled on chain.
These proposed instruments will enable institutional firms (e.g. Market Makers, Hedge Funds, etc) to hedge their settlement risk for their transactions buy ensuring they have guaranteed blockspace capacity at a future date to use for their trading activity. [4]
These Forward contracts with volumetric optionality are intended to address uncertainty with respect to the parties’ future production block capacity or settlement (delivery) needs, and not for speculative purposes or as a means to obtain one-way price protection.
Inclusion Market
The Inclusion Market makes up several subsystems:
LLGP: Meta Tx Gas Protocol for Gasless ERC20 Transactions[5]
- Send Transactions, Hedge Settlement Risk
FCM: Forward Clearing Market (MEV Futures) the Blockspace Forward Contract Exchange
- Send Transactions, Bundles or Partial Blocks, Hedge Settlement Risk
Derivatives: Futures/Options constructed on the underlying Forward Contracts from the participating Validator set.
- Hedge Price risk, Hedge Consensus Risk
LLGP is complete, the next phase the FCM has been waiting for regulatory clarity, which we feel has been satisfied with the recent House proposed bill and the CFTC regulatory exemption to operate the FCM provide a viable timetable for registration, operating and scaling.
CFTC Compliance: draft rulebook for Exchange Venue
In preparing for this we have drafted an initial rulebook. Although the SEC has made a comment about this in the recent Coinbase lawsuit, this rulebook is for CFTC regulatory compliance, not per se SEC.[6]
Better Blockspace: Hedges for Priority and Quantity
To summarize all this
-
Sponsored transactions via LLGP
- Builder pays for gas
- Builder offers more flexible schemes for protocol access
- Builder offers more flexible schemes for protocol access
-
Instant confirmations
- Builder promises to include your transaction (LLGP + Inclusion Market)
-
Cancellations, retries
- Builder handles your transaction subject to some events “Counterfactual Transactions”
-
Gas futures
- Builder sells block quantity in the future
-
MEV futures
- Builder sells block priority in the future
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CFTC regulated forwards
- Existing legal framework to operate under
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Potentially futures/options
- No guarantee that legal framework to operate under, however proposed legislation is now public for this to be a realistic goal within the next 18 months.
Fees generated from the Exchange go to validators and FOLD v2 staking, as risk of contract failure to deliver is paid out in cash settlement. This is the Embedded volumetric optionality portion of the forward contracts: should the blockspace settlement not occur as defined by the agreement, the contract owner is entitled to a cash payout, which is funded by the FOLD staking vault.
Commentary and Notes
Commentary 1: In Kumagae Onna Amigasa, author Bunryu Nishiki describes how a rice merchant from Koriyama named Yomiji would convey these price signals from Dojima, Osaka to Koriyama in order to make profitable trades. "In order to get information about daily prices at the rice exchange, Yomiji hired a regular express messenger .… A minute after the rice exchange started the business of the day in Osaka, the messenger wearing red hat and red gloves ran like a flying bird and arrived at Kuragari Pass .… If he raised his left hand by 1 degree, it meant the rice price increased by 1 bu of silver. If he raised his right hand by 1 degree, it meant the rice price decreased by 1 bu of silver. His role was to inform Yomiji of the increases and decreases of rice prices. Yomiji saw the person’s signals from the second floor of the wholesale store using a telescope which had a range of 10 miles, and bought or sold rice taking these price changes into consideration .… As Yomiji knew the rice prices earlier than anyone when the information was delivered to Kuragari Pass, there was not a single day that Yomiji did not make money. Other merchants had no idea about his scheme. They gave Yomiji the nickname “Forecasting Yomiji” and rice prices in Koriyama came to be greatly influenced by Yomiji’s transactions.
Commentary: Since there is too much state, transactors will need to buy verifiable caches from someone, this is something we will examine in the context of the Data Availability layer and a potential Relay service.
Commentary: An alternative to money-burning that has similar game-theoretic properties is to redirect a block’s revenue to entities other than the block’s miner, such as a foundation or the miners of future blocks. Feeding these fees to future block proposers as an incentive to build ontop of the block can be implemented via the Smoothing pool for purposes of disincentivizing re-orgs.
Alvin E. Roth, Who Gets What – and Why (Boston, MA: Mariner Books, 2015) provides a valuable discussion of matchmaking markets. ↩︎ ↩︎
Read more about LLGP here https://hackmd.io/@manifoldx/llgp-spec ↩︎
Forward contracts that provide for variations in delivery amount (i.e., that contain ‘‘embedded volumetric optionality’’) See id. at 48237–39 (citing In re Wright, CFTC Docket No. 97–02, 2010 WL 4388247 (CFTC Oct. 25, 2010), and Characteristics Distinguishing Cash and Forward Contracts and ‘‘Trade’’ Options, 50 FR 39656 (Sept. 30, 1985) (‘‘1985 CFTC OGC Interpretation’’)). ↩︎
The primary purpose of a forward contract is to transfer ownership of the commodity and not to transfer solely its price risk. Accounting treatment of supply contracts with volumetric optionality provides a useful analogy. The Financial Accounting Standards Board (“FASB”) considers a forward contract that contains embedded volumetric optionality that “permits the holder only to purchase or sell additional quantities at the market price at the date of delivery” as within the scope of the “normal purchases and normal sales scope exception” and not as a derivative instrument. FASB Accounting Standards Codification paragraph 815-10-15-42. ↩︎
LLGP (Lovely Little Gas Protocol) represents a transaction market or offering to closely align gas paid with the economics of the application (i.e., gas is paid based on notional traded irrespective of network congestion). ↩︎
“In other parts of our securities markets, these functions are separate. Coinbase’s alleged failures deprive investors of critical protections, including rulebooks that prevent fraud and manipulation, proper disclosure, safeguards against conflicts of interest, and routine inspection by the SEC. Further, as we allege, Coinbase never registered its staking-as-a-service program as required by the securities laws, again depriving investors of critical disclosure and other protections." Source https://www.sec.gov/news/press-release/2023-102 (Emphasis Mine) ↩︎