The Policy Analysis Market (A Thwarted Experiment in the Use of Prediction Markets for Public Policy)

Abstract

have long had speculative markets in gold, currency, pigs, and other commodities, which as a side effect do a remarkable job of aggregating information. Prediction markets turn this side effect into the main effect: if you want to know more on a topic, create and subsidize betting markets on that topic to elicit more accurate estimates. I have long been interested in how prediction markets can be used to improve decisions in the public arena. From 2001 to 2003 I had the opportunity to guide research on such markets that was sponsored by the U.S. government. The project, run by the Defense Advanced Research Projects Agency (DARPA), showed that general acceptance is still a long way off. Yet the academic support for the concept of prediction markets is old. In addition to the large literature on the information efficiency of financial markets (see Text Box 1), for several decades economists have been creating markets in the laboratory, showing since 1988 that markets with just a few traders trading for a few minutes can aggregate trader-held information. Also since 1988, researchers at the University of Iowa have used a special legal exemption (which no one else has obtained) to run a series of real money betting markets on U.S. elections. Although these were far from the first election betting markets, the added researcher-control they allow has led to new insights and academic attention. Starting with the Foresight Exchange in 1994, a series of web-based markets were created that used play money and prizes to avoid the legal barriers that prevent the public from betting real money (see Text Box 2). The most successful of Robin Hanson