Essentially, prediction markets are based on the idea that large groups are better than individuals when it comes to determining unknown variables or predicting the possibility of an event. Whether the question is the weight of a pig, the release date on a piece of software, or the identity of the next President, prediction markets, in all likelihood, will be better at "guessing" the outcome than any single individual.
Although they have been around for decades, prediction markets have become really popular over the last few years, due in large part to James Surowiecki's 2004 book, The Wisdom of Crowds, which offered a very detailed historical analysis of both the strengths and weaknesses of these markets. When it came out, Suroweicki's book had a revolutionary effect, changing the way that people looked at everything from elections to how people in crowds react to each other. The repercussions of his research are still playing out.
Prediction markets have proven particularly useful in the workplace. Basically, in a prediction market, individuals make a prediction about the future. They then buy a contract based on that prediction. The contract prices, in turn, fluctuate based on the pressures of the market. Thus, by observing the prices of various contracts, it is possible to predict the outcome of an event. For example, if I were to offer contracts about the Democratic party's Presidential candidate, some people would buy Hilary Clinton contracts and others would buy Barack Obama contracts. As they bought and sold the contracts, the prices would go up or down; the higher the price, the higher the chances of the particular event occurring. Thus, if the price of a $1 Obama contract was $0.89, this would indicate that the crowd thought that Obama had an 89% chance of winning the nomination.
By the way, if you're really interested in prediction markets, Jed Christiansen at Mercury Research and Consulting has produced a video that offers an outstanding explanation.
Recently, NewsFutures, a prediction market coordinator, has opened Bet 2 Give, an online prediction market in which bettors can weigh in on a variety of different events and donate their winnings to charitable causes. Although Bet 2 Give only opened late last year, it's already given more than $1500 to various non-profit groups.
Here are some of Bet 2 Give's current predictions:
- Chance that the avian flu will reach Europe before it reaches the U.S: 80%
- Chance that Osama bin Laden will be captured before George Bush leaves office: 15%
- Chance that the Democrat nominee will win the U.S. Presidency in 2008: 65%
- Chance that the Republican nominee will win the U.S. Presidency in 2008: 40%
- Chance that Hilary Clinton will be the Democratic nominee for President in 2008: 20%
Obviously, there are some shortcomings to the prediction market model, but it is still an interesting indicator of future events. Besides, this is the most interesting method I've seen for making charitable contributions.
Bruce Watson is a freelance writer, blogger, and all-around cheapskate. According to Bet2Give, his current chances of winning the Nobel Peace Prize are pegged at way below 1%.