How Prediction Markets Could Benefit from Independent Inflation Data
Prediction markets are a type of futures market where contracts are exchanged based on the outcome of future events. Instead of betting on the prices of goods, the investors can open contracts on anything, from future election results and quarterly earnings of companies to the success or failure of events, mergers, launches, movies, and even the weather.
Studies indicate that prediction markets can be used as a powerful polling tool and outperform traditional forecasting methods that lack the financial incentives or the technological components. They could even encourage users to verify past information and seek out more accurate data sources.
What are crypto prediction markets?
The crypto prediction markets operate in a similar fashion to conventional prediction markets, betting on prices of crypto assets and standard assets, as well as the outcomes of almost any future event in the world, which can be reasonably predicted.
The crypto prediction platforms such as Augur, Gnosis, Omen, or Polymarket differ from the standard markets in that they are built as decentralized applications. It means that they do not need any trusted and centralized third parties to manage bets and payouts. Instead, they use smart contracts, a type of self-executable computer program registered on the blockchain that can automatically settle all bets at the conclusion of the predicted events.
How do smart contracts know what happened?
Smart contracts and decentralized prediction markets settle outcomes of bets automatically. But how do they verify and understand the final outcome of events?
To execute, they need to consult an agreed-on data source and determine the outcome of the bet. It is done by setting a data oracle(s) for the contract.
For example. The contracts may ask a question:
“Is the USD inflation for February 2022 measured by the CPI year-over-year change going to be higher than 8%?”
This contract is then linked to a relevant data oracle, which transfers the real-world information (here, the government's Consumer Price Index) to a blockchain and feeds it to the smart contract. The contract can then execute when the February CPI is announced.
Many crypto prediction platforms are extremely flexible and oracle-agnostic, meaning they allow users to create contracts on all sorts of questions and choose their own oracle or set of oracles that will determine the bet’s outcome. The market decides if the question and the chosen data sources are worth it.
Why prediction markets aren’t gambling.
The answer is data, data, data.
Although betting on the outcome of sports events and elections might seem like guesswork, prediction markets differ significantly from gambling in that they rely heavily on current data as well as forecasts and calculation models.
The contracts are predictions based on analysis and access to a wide range of information and often include new technologies.
The oracle data can serve as a necessary feed to settle contracts. But its historical records could also be used to create various prediction models and machine learning algorithms.
How inflation data could be used in prediction markets.
The inflation rates have risen sharply in the US within the past year. As a macroeconomic index, forecasting the inflation rate is not only interesting in itself as a potential contract. Its levels also affect many prices and the global financial environment as a whole.
For example, current USD inflation of 7.5% demands that the Federal Reserve change its monetary policies: slowing down quantitative easing (QE), shrinking the Fed’s balance sheet, and raising interest rates. Those policies have a profound effect on stock markets and have been shown recently to affect the cryptocurrency markets as well.
Poor economic performance measured through macroeconomic indices like the CPI (Consumer Price Index), GDP (Growth Domestic Product), PPI (Producer Price Index) also influences the political spectrum and especially the outcomes of elections.
Accurate Data is Key
Although the government provides the official inflation data announced once a month, their CPI index has garnered a lot of controversy over the years and seems to be underestimating the price changes in the market.
The data provided by central authorities who have a conflict of interest reporting accurate numbers might not give the investors enough insights into the actual situation or the consumer’s sentiment on the ground.
That’s why there is a good chance the growing prediction markets will incentivize independent, alternative data sources to verify the past and better forecast the future.
Truflation is a daily USD inflation rate based on the current CPI model substituted with the real-market price data. It offers information based on facts like sell prices rather than outdated consumer surveys and census.
The Truflation Index is currently available on-chain through Chainlink oracle.