CFTC Oversight May Not be a Boon.

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I want to quibble with one of Dave Pennock&#8217-s comments on the CFTC request. Pennock wrote &#8220-It&#8217-s not often that an industry in its infancy cries out for more government oversight.&#8221-

It&#8217-s actually quite common. The term in the economics literature that includes this is regulatory capture. When there&#8217-s a regulatory body specific to a particular industry, it&#8217-s very common for industry to be the major source of expertise in the area, and so for the regulators to be reasonably friendly with the businesses. The businesses can work for regulation that limits entry, and cuts down on competition that reduces profits, and they can work together to ensure that public relations problems are addressed in a cohesive way. But cutting down on competition often means fewer choices for consumers by way of tighter controls on what products are offered.

In our case, the thing I worry about is a narrow ruling that only &#8220-socially valuable&#8221- questions can be asked, and an expensive process for deciding what innovative questions can be posed. It seems likely that some interests will work to ensure that sports and entertainment questions be declared off-limits. The companies that have the strongest interest in fighting that faction are mostly persona non grata in the CFTC&#8217-s eyes, since they currently operate outside the law (TradeSports) or outside the country (BetFair).

The narrower the set of approved questions, or the more expensive the process of getting approval, the less chance that markets will be commercially successful. I think the experiments within companies have indicated (though not proven) that a mix of valuable and popular claims is necessary in order to attract continuing participation.

My biggest worry about fighting for CFTC regulation at this point is that they&#8217-ll approve something narrow, and this won&#8217-t produce enough successes to demonstrate that loosening the restrictions over time would be beneficial. The alternative is to continue to find ways to introduce markets under the radar and demonstrate their value to the academic audience, which could lead to a friendlier hearing in a more distant future after prediction markets have demonstrated social value and little risk of harm.

Of course the other likely outcome is that the novel experiments don&#8217-t happen because of the threat of litigation or regulation. But that seems unlikely given the growth in internal markets within companies. I think there&#8217-s more likelihood of long-term success without regulation than with it, and we&#8217-re better off waiting until the chances that the regulations will provide a broad approval are significantly higher.

(Cross-posted from