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The famous philosopher Kant saw bets as encouraging thoughtfulness and discouraging self-deception:
The usual touchstone of whether what someone asserts is mere persuasion or at least a subjective conviction, i.e., firm belief, is betting. Often someone pronounces his propositions with such confident and inflexible defiance that he seems to have entirely laid aside all concern for error. A bet disconcerts him. Sometimes he reveals that he is persuaded enough for one ducat but not for ten. For he would happily bet one, but at ten he suddenly becomes aware of what he had not previously noticed, namely that it is quite possible that he has erred. (Critique of Pure Reason, A824/B852; more; HT Tyler)
If we were to see life out there in the universe, at or below our level of development, that would be bad news regarding our future. It would suggest that more of the great filter that stands between dead matter and expanding civilization lies ahead of our place on that path. Similarly, it is bad news to hear that Kant had a high opinion of the accuracy advantages of bets. Let me explain.
I hope for a future where betting markets are a commonly used mechanism to create official consensus beliefs, but I must explain the fact that they are not already often used this way. What barriers have stood in their way? One barrier is widespread skepticism about bet accuracy. But hearing of Kant’s well-known position reduces my estimate of this barrier; many respected people have long respected bet accuracy. So I must therefore increase my estimate of the difficulty of other barriers. Alas, since skepticism about accuracy seems one of the easiest barriers to overcome, via track records and lab experiments, I must increase my estimate of the overall difficulty of my goal. I’ll keep trying though.
Bad News: Kant & Bets
Good post, you do have to explain the limited use of prediction markets so far.
The success of prediction markets is real so far. Stock markets, bond markets are prediction markets. The growth of commodity markets, options markets, effectively markets for billion dollar bets mediated by wall street firms, etc etc. do need to be counted as successes. Presumably their existence speaks to where it is really possible to draw value from prediction.
When I contemplate betting in new prediction markets, I ask myself why I would put the effort in to making a well formed and rational prediction. My choice is to do my job, to take a narrow set of data and develop new algorithms for use primarily in the support and creation of wireless portable devices. So far, working always wins over figuring out how I would bet in prediction markets.
And that seems to make sense. Prediction markets are a zero-sum game. Work is not, when I have created something it can then be used by other people to do stuff they want to do. So perhaps one flaw with prediction markets is that until everything useful is already invented, the kinds of efforts required to do well in prediction markets will be competed away into development of new software and algorithms.
And that non-zero-sumness is also a feature of many of the successful prediction markets that already exist. The stock market I have read has returned an average of 7% a year for 150 years or something. Presumably you could get the same effort we see in predicting stocks in other prediction markets by the simple expedient of subsidizing them to the tune of 7% per year for 100 years. At 0% expected return, I have better things to think about.
There do seem to be some other predictino markets that are not as obviously providing a non-zero sum. Do commodity markets provide a consistent return? It is possible that they do, since these are essentially futures markets. Has anybody ever studied whether there is an average return to buying commodities now for delivery in 3, 6, or 9 months? There could be, it seems, the producers might be willing to pay, on average, the bettors, in return for cash now, for a laying off of risk.
What about options markets? On the one hand, it looks zero sum since there are as many long as short positions, as many call contracts sold as bought. But the bid-ask and laying-off strategies may mean that it is not zero sum: market makers may make money on the bid-ask spread while market participants may generally trend towards being long the underlying stock rather than short the underlying stock, thus "importing" some part, at least, of the 7% stock return. And the market makers don't lose that 7% since they can lay off their risk by being long the underlying stock themselves.
SO fantastic blog post, what explains the difference between prediction markets that have succeeded and those that haven't? Some fruitful areas to look at: successful prediction markets I can think of are subsidized by many % of nominal per year, AND the kind of effort that averages a 0% return in a prediction market averages a significant return when harnessed towards producing new algorithms (and presumably towards doing other sorts of intellectual creation).
Robin, you should add an update to the main body of this post with gwern's link.
daedalus2u, you say the problem exists in all markets, so can you provide evidence of it in futures markets? Those are the ones Robin usually uses as analogies.
"The person without fossil fuel assets doesn’t have the assets to back up bets comparable in value to my fossil fuel assets."Someone betting the wrong way is essentially offering free money to anyone willing to put up assets against them. There is no person on earth rich enough to outweigh the combined assets of all speculators willing to take their money.