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The crypto industry has had a challenging year, with numerous instances of protocol failures, hacks, high-profile bankruptcies, and criminal lawsuits rocking the sector. Added to this are macroeconomic conditions in the post-pandemic world, with inflation on the rise and interest rates increasing in several countries, notably the U.S., contributing to a decline in economic activity across both the crypto and traditional financial sectors. A tightening regulatory environment, with government agencies like the U.S. Securities Exchange Commission (SEC) closely scrutinizing blockchain-based applications and services, has added further pressure. This scrutiny has predominantly targeted the most valuable and popular applications, many of which are built on Ethereum.
A series of regulatory actions throughout 2023 illustrate this increasing scrutiny:
- In February, the SEC sued cryptocurrency exchange Kraken for selling unregistered securities through their staking services, leading to a suspension of staking services in the U.S.
- In March, Members of the European Parliament (MEP) voted in favor of an anti-money laundering bill requiring decentralized autonomous organizations (DAOs), decentralized finance (DeFi) protocols, and non-fungible token (NFT) marketplaces to comply with the same due diligence checks as traditional financial institutions.
- That same month, the New York Attorney General (NYAG) filed a lawsuit against crypto exchange KuCoin and classified ETH as a security within the suit.
- In April, the U.S. Treasury called for DeFi protocols to comply with U.S. anti-money laundering and sanctions laws in a published report.
- In June, the SEC sued Binance, the world's largest cryptocurrency exchange, for violating federal securities laws.
- That same month, the U.S. Commodity Futures Trading Commission (CFTC) won a lawsuit against DAO Ooki DAO for offering unregistered commodities.
As the crypto market struggles and fears of a global recession grow, lawmakers and regulators worldwide continue to evaluate how policies and rules can and should shape access to and activity on Ethereum. For Ethereum to realize its vision of becoming the world's computer, it's critical for Ethereum core developers to counter centralization trends and reinforce censorship-resistance features at both the protocol and application levels.
Over the past year, the Ethereum Foundation and other prominent Ethereum stakeholders have directed increasing attention to the phenomenon of maximal extractable value (MEV) due to its centralizing impacts. In a bid to mitigate the negative externalities of MEV, Ethereum core developers, in partnership with Flashbots, created MEV-Boost, a software addition for Ethereum validators aimed at earning MEV post-Merge without succumbing to centralization. However, MEV-Boost is a short-term measure, and its own centralizing effects can only be offset by implementing an in-protocol version of MEV-Boost, referred to as in-protocol proposer builder separate (PBS).
The inclusion of EIP 4844 in the upcoming Cancun upgrade is reflective of a prioritization for scalability through rollups over other long-term initiatives and goals. This prioritization, in combination with the deferral of other EIPs of similar complexity to post-Cancun upgrades, indicates the urgency felt by Ethereum core developers to advance Ethereum's role as a DA layer in preparation for a near future where transaction execution primarily happens on rollups, not on Ethereum itself.
However, the prioritization of proto-danksharding over PBS and other EIPs aimed at enhancing Ethereum's censorship-resistance is not solely based on necessity or urgency. It is also contingent on EIP readiness. For instance, a major upgrade to the Ethereum Virtual Machine (EVM) usability, known as EVM Object Format (EOF), was postponed from the Merge, Shanghai, and now the Cancun upgrade due to consensus among Ethereum core developers around the lack of readiness for the code changes. EIP 4788, an upgrade designed to improve trust-minimized access to the Beacon Chain from the EVM, was thoroughly evaluated for readiness in Cancun and accepted into the upgrade on June 8, 2023.
Polygon is unique in the fact that is has done the (nearly) impossible: carving out a niche in the cryptocurrency landscape as an EVM-compatible, Ethereum-aligned, quasi L1-L2 project.
This combination has led to Polygon consistently ranking among the top five in adoption metrics among blockchains, including transactions, wallets, daily active users, and contracts deployed, reflecting its wide acceptance in the crypto community.
In June 2023, Polygon Labs unveiled its strategic vision for Polygon 2.0, which aims to transform the Polygon PoS chain into a zkEVM validium and the entire Polygon ecosystem into a platform for “unlimited scalability and unified liquidity” on Ethereum.
Importantly, Polygon is self-aware of its own chain’s limitations and is being proactive with Polygon 2.0, attempting to keep up with the bleeding edge of the rollup and scalability space. The rollout of Polygon 2.0 will be incremental, requiring community approval for each proposal. While this approach is cautious and responsibly considers the opinions of the community, the other side of this that cannot be ignored is that it also keeps Polygon in the news for months as the transition progresses in stages. This keeps the community engaged, Polygon in the news, and plenty of “hopium” for holders, not unlike the ETH 2.0 saga from 2017 to ~2022.
Potential U.S. regulatory crackdowns could negate any bullish momentum created by Polygon 2.0. Polygon’s heavy reliance on Polygon Labs, the multi-sig dependencies, and Gensler’s refusal to apply nuance to any crypto project’s design put MATIC squarely in the crosshairs of regulators.