How Blockchains are Breathing New Life into Prediction Markets
Blockchain technology is still very much in its infancy, while blockchain-powered Prediction Markets (PM) are even younger — they’ve only been around for a year or so. In contrast, various forms of Prediction Markets have existed for centuries: people have been betting on future events such as horse races, gladiator fights, and political elections.
This concept of Prediction/Decision Markets was revitalized by Robin Hanson in 1999 when he coined the term futarchy. The economic principle of futarchy suggests that key choices can be made through Decision Markets (DM), whereby people would use a certain system to place monetary bets as a way of voting in a ‘Yes’ or ‘No’ scenario. The idea is that only those who are well informed on the subject or have a personal interest in the outcome will participate by putting their money at stake. Coincidently, the world’s first blockchain, on which the Bitcoin network is built, appeared around the same time futarchy became a buzzwork as the 2008 financial crisis shook the global economy.
Blockchain technology provides a solution to a critique that has been plaguing financial markets ever since their conception — centralization. Essentially, centralization means that there is a single point of control which, if exploited, can become a single point of failure and bring down the entire market. Moreover, it gives bad actors an opportunity to take advantage of others by manipulating the market using insider information.
Let’s face it, there is no single political or economic system that works for everybody. Whatever system is in place can be bent and manipulated by those with the power to do so, either for money of power. It can also be argued that any particular type of democracy and parliamentarism works and that it’s the one true system of governance. This is mostly due to the lack of notable alternatives.
Another notable characteristic of Prediction Markets can actually be observed in action through the gambling industry. Of course, greed has been a driving factor throughout the industry’s long history, but those who are able to play smart usually manage to make substantial profits. For instance, a journalist that covers tennis in-depth is a lot more likely to place a winning bet than a person who can’t tell a tennis racket from a baseball bat. These days, however, with an abundance of information readily available online, it is becoming easier for non-experts to make accurate predictions. This results in the betting market growing rapidly, and the betting market will continue doing so according to predictions.
But the events that we can bet on are limited — who will become the next UK Prime Minister or who will win the FIFA World Cup, that’s about as big as it can get. And the existing markets almost completely exclude the smaller, domestic issues, such as: who will marry the most beautiful girl in the village or if a local government will raise taxes to increase police funding. But why not bet on that as well?
Theoretically, one might even like to create an insurance contract in the form of a bet with a car manufacturer X: if the car breaks down before the warranty is over, the customer gets their money back. Whether the manufacturers will be willing to enter such contracts is another question.
And there is also another problem that all betting platforms have to deal with — regulations. As these vary from country to country, it is becoming rather hard for companies to work internationally, as going global would mean adjusting to local laws, which entails higher costs. The older Prediction Markets which didn’t utilize blockchain technology were likened to online gambling platforms by the authorities and thus faced scrutiny and in most cases were forced to shut down.
Perhaps the most notable example is Intrade.com, which closed down in 2013. Other attempts include Electronic Markets (IEM), PredictIt and so forth. All of these platforms tried running Prediction Markets, but were either deemed illegal or had to severely limit the scope of their activities and eventually went out of business.
Enter, Blockchain
With the innovation of Satoshi Nakamoto’s Bitcoin the world now has access to a novel technology that can facilitate PMs in a trustless, decentralized manor. However, this doesn’t mean that PMs can now be built and ran effortlessly. The current stage is an explorative one, with several different projects exploring the possibilities. There are Augurus, Stox, and Gnosis, which are based on Ethereum, Bitcoin Hivemind is built as a Bitcoin sidechain, while Amoveo and Aeternity utilize their own blockchains tailored to the projects’ needs. Those are just some of the biggest projects out there, with many other smaller platforms experimenting with various ideas.
All these projects are here because they see blockchains as an answer to the issues that the Prediction Markets and the gambling industry faced before. Blockchain provides censorship-resistance, security and immutability for the general public. Additionally, blockchain provides a solution to accessibility as people become able to predict with digital coins or tokens. But most importantly, the architecture of a blockchain is set up in a way that provides a perfect form of governance for the system — decentralized and thus tamper-proof. Right now, we are witnessing how an ancient concept of Prediction Markets and how young, disruptive blockchains are coming together in accordance with the idea of futarchy.
The way all the aforementioned platforms work is that the community has the final say on almost everything, while the platform’s creators receive small fees, but only as long as the system continues to function. When the system relies on the community to place and then settle bets, it does ensure that members of the community follow a certain process when using the system, any sidestep from that is red-flagged as cheating. To put it simply, if you are doing something abnormal, you most likely are trying to cheat the system. Such blockchains counter such actions since they are organized in accordance with the ‘game theory’. Thus the system would punish cheats and reward honest users. The way this is implemented varies from one platform to another, but, in general, lying or cheating simply becomes unprofitable.
It’s a win-win scenario which would not be possible without the blockchain. Because of it, Prediction Markets are now becoming of interest to a wider audience. Not just blockchain enthusiasts, but people that want to earn money from their particular expertise or those that are dissatisfied with the notion that the casino or bookmaker may be cheating.
As of now, this symbiosis can be used to power betting in a form of Prediction Markets, but perhaps, in the future, we could see Hanson’s Decision Markets come to life on the back of the possible success of blockchain-powered PMs. Even now, DMs are used in some cases, for example, to determine how a blockchain should be managed. But this could just be the start. Theoretically, a vital domestic decision on tax rate changes could be made via a Decision Market, as opposed to the parliament vote. In that case, people would stake on their interests instead of betting on the future, but the essence of what is happening is the same, and so are the outcomes. In such a system people will be more inclined to be involved with and become well-versed in the issue they are betting on and if it is tamper-proof, the outcome will be fair and accepted throughout society.
However, even though the consensus-based decision making (which is the norm for such systems) could be argued to be the most accurate way to prove that something is true, it still can be prone to error if the majority is acting based on a wrong assumption: “Is a certain person old or not?” — People may say ‘No’, as he does have hair, others — ‘Yes’, believing he is wearing a wig, while others may argue that it’s a bad question since no one knows for sure.
There are high hopes for the emerging technologies that are paving the way for decentralized Prediction Markets. Who knows, once these technologies are gelled together and running smoothly they could provide an alternative to the way we view Democracy and governance. But so far there are several limitations which are proving difficult to overcome. Even ‘decentralized’ platforms can come under attack, from bad actors or regulators, as is the case with Augur and binary options, that have become a point of interest for the U.S. CFTC.Blockchain technology is still very much in its infancy, while blockchain-powered Prediction Markets (PM) are even younger — they’ve only been around for a year or so. In contrast, various forms of Prediction Markets have existed for centuries: people have been betting on future events such as horse races, gladiator fights, and political elections.
This concept of Prediction/Decision Markets was revitalized by Robin Hanson in 1999 when he coined the term futarchy. The economic principle of futarchy suggests that key choices can be made through Decision Markets (DM), whereby people would use a certain system to place monetary bets as a way of voting in a ‘Yes’ or ‘No’ scenario. The idea is that only those who are well informed on the subject or have a personal interest in the outcome will participate by putting their money at stake. Coincidently, the world’s first blockchain, on which the Bitcoin network is built, appeared around the same time futarchy became a buzzwork as the 2008 financial crisis shook the global economy.
Blockchain technology provides a solution to a critique that has been plaguing financial markets ever since their conception — centralization. Essentially, centralization means that there is a single point of control which, if exploited, can become a single point of failure and bring down the entire market. Moreover, it gives bad actors an opportunity to take advantage of others by manipulating the market using insider information.
Let’s face it, there is no single political or economic system that works for everybody. Whatever system is in place can be bent and manipulated by those with the power to do so, either for money of power. It can also be argued that any particular type of democracy and parliamentarism works and that it’s the one true system of governance. This is mostly due to the lack of notable alternatives.
Another notable characteristic of Prediction Markets can actually be observed in action through the gambling industry. Of course, greed has been a driving factor throughout the industry’s long history, but those who are able to play smart usually manage to make substantial profits. For instance, a journalist that covers tennis in-depth is a lot more likely to place a winning bet than a person who can’t tell a tennis racket from a baseball bat. These days, however, with an abundance of information readily available online, it is becoming easier for non-experts to make accurate predictions. This results in the betting market growing rapidly, and the betting market will continue doing so according to predictions.
But the events that we can bet on are limited — who will become the next UK Prime Minister or who will win the FIFA World Cup, that’s about as big as it can get. And the existing markets almost completely exclude the smaller, domestic issues, such as: who will marry the most beautiful girl in the village or if a local government will raise taxes to increase police funding. But why not bet on that as well?
Theoretically, one might even like to create an insurance contract in the form of a bet with a car manufacturer X: if the car breaks down before the warranty is over, the customer gets their money back. Whether the manufacturers will be willing to enter such contracts is another question.
And there is also another problem that all betting platforms have to deal with — regulations. As these vary from country to country, it is becoming rather hard for companies to work internationally, as going global would mean adjusting to local laws, which entails higher costs. The older Prediction Markets which didn’t utilize blockchain technology were likened to online gambling platforms by the authorities and thus faced scrutiny and in most cases were forced to shut down.
Perhaps the most notable example is Intrade.com, which closed down in 2013. Other attempts include Electronic Markets (IEM), PredictIt and so forth. All of these platforms tried running Prediction Markets, but were either deemed illegal or had to severely limit the scope of their activities and eventually went out of business.
Enter, Blockchain
With the innovation of Satoshi Nakamoto’s Bitcoin the world now has access to a novel technology that can facilitate PMs in a trustless, decentralized manor. However, this doesn’t mean that PMs can now be built and ran effortlessly. The current stage is an explorative one, with several different projects exploring the possibilities. There are Augurus, Stox, and Gnosis, which are based on Ethereum, Bitcoin Hivemind is built as a Bitcoin sidechain, while Amoveo and Aeternity utilize their own blockchains tailored to the projects’ needs. Those are just some of the biggest projects out there, with many other smaller platforms experimenting with various ideas.
All these projects are here because they see blockchains as an answer to the issues that the Prediction Markets and the gambling industry faced before. Blockchain provides censorship-resistance, security and immutability for the general public. Additionally, blockchain provides a solution to accessibility as people become able to predict with digital coins or tokens. But most importantly, the architecture of a blockchain is set up in a way that provides a perfect form of governance for the system — decentralized and thus tamper-proof. Right now, we are witnessing how an ancient concept of Prediction Markets and how young, disruptive blockchains are coming together in accordance with the idea of futarchy.
The way all the aforementioned platforms work is that the community has the final say on almost everything, while the platform’s creators receive small fees, but only as long as the system continues to function. When the system relies on the community to place and then settle bets, it does ensure that members of the community follow a certain process when using the system, any sidestep from that is red-flagged as cheating. To put it simply, if you are doing something abnormal, you most likely are trying to cheat the system. Such blockchains counter such actions since they are organized in accordance with the ‘game theory’. Thus the system would punish cheats and reward honest users. The way this is implemented varies from one platform to another, but, in general, lying or cheating simply becomes unprofitable.
It’s a win-win scenario which would not be possible without the blockchain. Because of it, Prediction Markets are now becoming of interest to a wider audience. Not just blockchain enthusiasts, but people that want to earn money from their particular expertise or those that are dissatisfied with the notion that the casino or bookmaker may be cheating.
As of now, this symbiosis can be used to power betting in a form of Prediction Markets, but perhaps, in the future, we could see Hanson’s Decision Markets come to life on the back of the possible success of blockchain-powered PMs. Even now, DMs are used in some cases, for example, to determine how a blockchain should be managed. But this could just be the start. Theoretically, a vital domestic decision on tax rate changes could be made via a Decision Market, as opposed to the parliament vote. In that case, people would stake on their interests instead of betting on the future, but the essence of what is happening is the same, and so are the outcomes. In such a system people will be more inclined to be involved with and become well-versed in the issue they are betting on and if it is tamper-proof, the outcome will be fair and accepted throughout society.
However, even though the consensus-based decision making (which is the norm for such systems) could be argued to be the most accurate way to prove that something is true, it still can be prone to error if the majority is acting based on a wrong assumption: “Is a certain person old or not?” — People may say ‘No’, as he does have hair, others — ‘Yes’, believing he is wearing a wig, while others may argue that it’s a bad question since no one knows for sure.
There are high hopes for the emerging technologies that are paving the way for decentralized Prediction Markets. Who knows, once these technologies are gelled together and running smoothly they could provide an alternative to the way we view Democracy and governance. But so far there are several limitations which are proving difficult to overcome. Even ‘decentralized’ platforms can come under attack, from bad actors or regulators, as is the case with Augur and binary options, that have become a point of interest for the U.S. CFTC.
