Cover photo

MEMO W27 JUL 2024

MEV is everywhere. And when you do not recognize that, you will not survive the dark forest. - xh3b4sd

Many continue to express concerns how crypto as an industry has no use cases. And I keep saying that this is not true. What seems to be the case is that people who say that crypto has no use cases are simply not using the available use cases themselves. The major use case that this industry provides today are stablecoins, which are primarily demanded in jurisdictions with rather bad fiat money. As mentioned in the past Powerlaw memos, those jurisdictions mainly include Turkey and countries in south America like Argentina. We could say that another use case for crypto that continues to grow in relevance are prediction markets. Polymarket generated over 100 million USD in monthly trading volume during the month of June 2024, and all of it is fundamentally secured by Ethereum. I have been using Polymarket myself for a while now for two main reasons. One reason is to see how prediction markets value certain future outcomes in the real world. Those outcomes today are mostly of political nature. And the other reason for me to use Polymarket is to express my own believe about future outcomes. Placing bets on Polymarket has given me some insights in how those market dynamics work and what to pay attention to when participating in prediction markets. It all starts with a reasonable belief that a person has to hold. According to that belief, the challenge is to find the right market in order to express that belief in value terms. Most important here are the conditions under which any prediction market is trading and under which conditions the markets in question resolve eventually. We could say we are still early, because figuring out what a prediction market is fundamentally about is not always straight forward. I had to learn that the titles under which prediction markets on Polymarket are listed have rather no meaning towards the conditions of resolving any market, because market titles may simply change any time. What really matters are the underlying conditions that a market defines, and those conditions may or may not be ambiguous or complete. One of my first mistakes that I made when betting on Polymarket was to place bets based on market titles. Placing my bets and then reading the fine print of the market conditions gave me a rather rude awakening, because what the market title expressed was not at all what the actual market conditions described. One question that I try to ask myself now on every bet I take is this. Until when has the future outcome to happen that I believe in here? All markets have deadlines and drawing conclusions on deadlines for yourself without consulting the stated market conditions is the perfect recipe to lose it all. Another ambiguous example we can think about is pretty common in sports. For instance, a prediction market asks the question which team scores the first goal in some particular match. And what then happens in the real world is that the team you were betting on put the ball into the goal, but the goal was subsequently invalidated by the referee for some obscure rule of that game. Your team made the goal, but the score did not count officially. How should such a market be resolved? Maybe the challenge with any prediction market is to define the question and its conditions in the most unambiguous ways possible. Though that is a very challenging task. Such a subjective process does always try to approach the error rate of zero, but it will never fully get there. In plain English that means one thing. Mistakes will be made. And so it turns out that many skills are required in order to successfully participate in prediction markets. You have to have a reasonable belief. You have to have a well rounded understanding of the area, field or industry that you are betting on. You have to fully understand the market conditions under which said market eventually resolves. You have to have the ability to identify the logical delta between the market's conditions and the possible action space within its area, field or industry in question. And you have to be aware of the ever changing environment in which the market's conditions play out. Because, it seems like one of the optimal strategies in prediction markets is full of MEV. Many bets try to merely shave off basis points from ongoing prediction markets without much conviction whatsoever. In practice that looks like this. Somebody enters a market and places a limit order immediately for exiting the market with a little bit of profit. This stinky bid strategy is successful because of the inherent volatility of anything happening in the real world. And I think that volatility is especially prevalent across politics and sports. The downside of the stinky bid strategy is that you need to play as many markets as you possibly can while understanding the statistical significants of any market that you enter. And especially in those early days, I think there might not always be enough markets to bet on. And if there are, you just found yourself another full time job.

The Supreme Court of the United States has just overturned what has been known as the Chevron doctrine. Over the past 40 years we have seen federal agencies claim power to interpret the law by themselves under the guidance of Chevron. Many democracies end up with ever powerful administrative states, run by unelected officials who may or may not have an agenda, and who may or may not be fit for the job. In a perfect world of competent administrators all would be good and well. Though we are not living quite in a perfect world, and the result over the past 40 years has been that society was ruled by unelected officials inside of the administrative state expressing their own opinions and agendas. Not that everything has been bad. By no means! But the result of the Chevron doctrine has stiffled whole industries like nuclear power and blockchain networks in the USA without any recourse. Moving forward we should hope to see less authority in unreasonable decision making across three letter agencies, and instead see more authority in decision making based on the law of the land. And since the law of the land is not always clear, we can expect, or better, we should hope to see more legislation from congress. Because congress is elected by the people. And because making laws for the people is the job of congress.

Marc Andreessen recently told his story of how the internet happened. And I couldn't but notice all the stark parallels to the early days of the crypto industry today. Networks of networks see exponential adoption in what seems to be a niche use case at first. The old world collides with the new world and the incumbents of the old world do not understand what the new world has to offer nor why you would even need any of it anyway. Established professionals predict the demise of the new world while being proven wrong over and over again. And even after 20 years of technological progress and cultural relevance we are going to see many people wondering how any of the blockchain networks are useful after all. If you take away anything from here, then let it be this. The world will always become more digital and we will always be looking for ways to improve how the systems work that we use to govern our societies. We know these things to always be true. And even if the road ahead is rocky, and even if blockchain networks appear to be a negligible beast of a foreign land, blockchain networks will only increase in relevance and value for how society and the world economy is fundamentally run.

The number of L2 rollups keeps growing and we are now seeing 140 of active and upcoming projects in the L2 rollup category. Many think that there are too many of those rollups, and while that appears to be true on the surface today, I think the path forward will be paved with app specific rollups of which we should see thousands over the coming years. On the list of networks processing the most transactions per second, Ethereum mainnet was pushed to spot 7 the first time ever, which means that for the first time 6 L2s and L3s are processing more economic activity than Ethereum mainnet itself. The conclusion of this convoluted word salat is simply this. Usage of blockchain networks across the Ethereum ecosystem is close to all time highs. All scaling and usage metrics are up into the right, which essentially means that Ethereum is relevant, and that Ethereum is scaling.

Powerlaw logo
Subscribe to Powerlaw and never miss a post.