The first thing of note is that the extensive list of authors overlaps that of the “Statement on Prediction Markets” of a year ago (but lacking Statement signers Daniel Kahneman, Charles R. Plott, and Shyam Sunder). A quick scan of the piece reveals it pursues that same controversial strategy as the earlier statement – seeking CFTC safe harbor protection for a limited set of small stakes, non-profit prediction market exchanges.

We would therefore urge the CFTC to explore other approaches to ensuring safe harbors, for example, formal rules or guidance approved by the commission.

We suggest that three types of entities be eligible for safe harbor treatment. The first would be not-for-profit research institutions, including universities, colleges and think tanks wishing to operate exchanges similar to the Iowa Electronic Markets. The second would be government agencies seeking to do research similar to that of nongovernmental research institutions. The third group would consist of private businesses and not-for-profits that are not primarily engaged in research, which would only be allowed to operate internal prediction markets with their employees or contractors.

In all cases, markets would be limited to small-stakes contracts. Although the definition of small stakes is somewhat arbitrary, we use the term to mean an exchange in which the total amount of capital deposited by any one participant may not exceed some modest sum, perhaps something like $2,000 per year.

The exchanges themselves would be not-for-profit but would be allowed to charge modest fees to recoup administrative and regulatory costs. Brokers and paid advisers would be barred, reducing the risks that contracts would be sold to inappropriate or vulnerable customers or that customers would be charged fees above the amounts needed to maintain the markets. Exchanges would be self-regulated, leaving them with the responsibility to make reasonable efforts to keep markets free from fraud and manipulation.

For its part, the CFTC should allow contracts that price any economically meaningful event. This definition could allow for contracts on political events, environmental risks, or economic indicators, such as those offered by the Iowa Electronic Markets, but would presumably not include contracts on the outcomes of sports events.

… Congress should support the CFTC’s efforts to develop prediction markets.

And so on.

Maybe this is the best strategy for gaining political protection for progress, it is a difficult judgment to make. But the Science magazine placement is high profile and will certainly help raise the issue among folks who might otherwise be unaware of the need for progress on this front.

Perhaps more comments after I’ve had a change to read the piece more carefully. No doubt by then Chris F. Masse and the hard-core PM crowd will have, in their wisdom, torn this timid suggestion to shreds.

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Via Google’s Bo Cowgill, Robert Hahn and Paul Tetlock’s Op-Ed in the Wall Street Journal (mirror at AEI-Brookings – mirror at AEI):

[...] These markets often predict more accurately than experts. Why? They draw on the knowledge of people who might otherwise be ignored. Their anonymity frees participants from pressures to agree with opinion leaders. And they create straightforward profit incentives that encourage participants to search for better information. [...] A consensus plan, endorsed by more than 20 leading researchers, including Nobel economics laureates Kenneth Arrow, Daniel Kahneman, Thomas Schelling, and Vernon Smith, and published by the AEI-Brookings Joint Center, suggests the creation of a safe harbor for small-stakes, not-for-profit prediction markets to encourage experimentation. One could, for example, introduce exemptions for research-focused markets in which the size of individual investments does not exceed $2,000 per participant. The Commodity Futures Trading Commission (CFTC) could provide this safe harbor in the form of a “no-action” letter. Alternatively, the commission could create formal guidelines that make it cheaper and easier to start these markets. [...] Prediction markets have become more than fodder for television news features on what those zany Internet folks will think of next. They are coming of age as serious tools for information gathering and analysis — tools with great potential for improving the efficiency of government and the productivity of industry. To help achieve that potential, Washington needs to nurture their development and keep them from becoming collateral damage in the endless war over who can gamble and where.

Step #1: Make some gullible economists sign a “petition”, entirely engineered by Bob Himself, and which is flawed and too timid.

Step #2: Make the gullible Wall Street Journal readers believe that a “no-action letter” is the solution, claiming that that’s the “consensus”.

Robin Hanson, who is at heart a free-gambling-for-all economist, took part of this pitiful farce. Bad judgment, doc. If Robin Hanson wants to stay the “reigning expert” of the field of prediction markets, he will have to mind a more pertinent industry analysis in the future. Viva Steve Levitt.

Previous: Steve Levitt of Freakonomics: I WON’T SIGN YOUR PETITION, BOB. + Chris Masse’s comment on the Freakonomics’ blog post about the legality of US prediction markets + Safe Harbor Letter too Timid – by Chris Hibbert + The limitations of logic (and the need for passion) – by Caveat Bettor + Jason Ruspini on the Economists’ Petition

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Executive Summary

Prediction markets are markets for contracts that yield payments based on the outcome of an uncertain future event, such as a presidential election. Using these markets as forecasting tools could substantially improve decision making in the private and public sectors. We argue that U.S. regulators should lower barriers to the creation and design of prediction markets by creating a safe harbor for certain types of small stakes markets. We believe our proposed change has the potential to stimulate innovation in the design and use of prediction markets throughout the economy, and in the process to provide information that will benefit the private sector and government alike.

Introduction

Prediction markets are markets for contracts that yield payments based on the outcome of an uncertain future event, such as a presidential election, the release date for new software, or the action taken by the Federal Reserve on short-term interest rates. A key benefit is that the market price of these contracts can potentially provide more accurate forecasts of future events than other methods. Using these markets as forecasting tools could substantially improve decision making in the private and public sectors. They also can help manage risk more efficiently. It is precisely because prediction markets have great potential that we think the government should facilitate rather than hinder the introduction of these markets.

There are significant regulatory barriers to establishing prediction markets in the United States, in part because they are potentially subject to gambling laws. We argue that U.S. regulators should lower barriers to the creation and design of prediction markets by creating a safe harbor for certain types of small stakes markets. We believe our proposed change has the potential to stimulate innovation in the design and use of prediction markets throughout the economy, and in the process to provide information that will benefit the private sector and government alike.

[...]

Conclusion

We believe prediction markets can significantly improve decision making in both the private and public sectors. One of the clear benefits of allowing small stakes, non-profit markets to operate would be the greater use of prediction markets to inform both public and private decision making. A second benefit would be that access to better information could promote greater transparency and accountability in decision making. A third benefit might be that other countries and regions would promote prediction markets with more sensible regulation. Finally, we think there would be benefits from the development of new knowledge on how to design prediction markets.

We are aware that Congress did not intend the CFTC to regulate gambling and we believe that it is important to design this safe harbor in such a fashion that socially valuable prediction markets can get in, but gambling markets cannot.

Prediction markets have great potential for improving economic welfare and the decisions of private and public institutions alike. To help achieve that potential, the regulatory impediments to the use of prediction markets in the U.S. should be lowered. Here, we have suggested one approach for reducing those regulatory barriers.

AEI-Brookings Joint Center – The views in this paper represent those of the authors and do not necessarily represent the views of the institutions with which they are affiliated.

Kenneth J. Arrow – Stanford University

Robert Forsythe – University of South Florida

Michael Gorham – Illinois Institute of Technology

Robert Hahn – AEI-Brookings Joint Center

Robin Hanson – George Mason University

Daniel Kahneman – Princeton University

John O. Ledyard – California Institute of Technology

Saul Levmore – University of Chicago

Robert Litan – AEI-Brookings Joint Center

Paul Milgrom – Stanford University

Forrest D. Nelson – University of Iowa

George R. Neumann – University of Iowa

Charles R. Plott – California Institute of Technology

Thomas C. Schelling – University of Maryland

Robert J. Shiller – Yale University

Vernon L. Smith – George Mason University

Erik Snowberg – Stanford University

Cass R. Sunstein – University of Chicago

Paul C. Tetlock – University of Texas at Austin

Philip E. Tetlock – University of California at Berkeley

Hal R. Varian – University of California at Berkeley

Marco Ottaviani – London Business School

Justin Wolfers – University of Pennsylvania

Eric Zitzewitz – Stanford University

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