Prediction Markets: A Public Good or a Risk to Democracy?
Some argue that prediction markets pose a threat to democracy, while others believe they could serve the public by offering valuable insights and risk management tools. Despite recent clashes with regulators, industry observers suggest that election markets can provide more accurate insights into public sentiment than polls.
In May 2024, the United States Commodity Futures Trading Commission (CFTC) proposed a rule to ban derivatives used to bet on the outcome of US elections and other major real-world events. This proposal led US-based regulated prediction market platform Kalshi to take the commission to court. Columbia District Judge Jia Cobb rejected the CFTCs proposal, stating that “Kalshi’s contracts do not involve unlawful activity or gaming. They involve elections, which are neither.”
Regulation and Control of Prediction Markets
The CFTC attempted to appeal the decision, and an appellate court even temporarily blocked the market. However, the court denied the CFTC proposal on Oct 2, and the platform has resumed trading. Regulators’ initial concern was over the potential for manipulation, but some industry observers state that prediction markets may make better metrics of public opinion than traditional polls.
Harry Crane, a statistics professor at Rutgers University, commented on the CFTC portal’s proposal by claiming that “event contract markets are a valuable public good for which there is no evidence of significant manipulation or widespread use for any nefarious purposes that the Commission alleges.”
Crane believes US regulators operate with “overly restrictive regulations” that lead to “perverse incentives and market distortions” that interfere with the market’s natural price discovery mechanism. He explained that the information contained in the market prices cannot be as easily controlled as polls and media narratives close to elections and other political events. He believes “there is a desire to control the public’s access to this information.”
Prediction Markets vs Public Polls
Crane claimed that prediction markets for elections, such as Kalshi or the decentralized crypto-betting platform Polymarket, should be legal and widespread as they can offer several valuable aspects for the public.
In 2018 and 2020, Crane published two peer-reviewed studies in which he compared the forecasting accuracy of the prediction market platform PredictIt against the poll data aggregator FiveThirtyEight from statistician Nate Silver. In both cases, the research concluded that the betting prediction market was more accurate than Silver’s forecast across presidential, senate, house and governor races.
Crane highlighted the key difference between polls and prediction markets: Polls ask people who they want to win, and markets ask people who they think will win through an economic incentive model, which rewards them for accurate analysis.
The Advantages of Election Markets
Crane said that election markets have two primary advantages: hedging and information aggregation. These markets allow individuals and businesses to hedge risks to one-off, isolated outcomes, such as the result of an important election. When companies or individuals have less uncertainty or risk to worry about, they can operate more efficiently and confidently as they can prepare beforehand, which benefits the broader economy.
Crane concluded that prediction markets’ higher accuracy is due to sounder research involved in betting markets. Prediction markets “aggregate diverse pieces of information to arrive at the single most reliable forecast of elections,” motivated by the economic incentive involved with a bet.
Polymarket and the US Elections
As the US election looms with its uncertainties and geopolitical implications, prediction markets surrounding the 2024 presidential race are particularly hot. Polymarket offers a number of different betting pools, ranging from science to crypto to pop culture. But the market that has provided the most volume and mainstream media attention is the bet on the outcome of the US elections. Polymarket’s pool on the US election has surpassed $1 billion in volume, constituting 80% of Polymarket’s total volume.
Despite Kalshi’s victory against the CFTC, Polymarket has decided to remain offshore. It stopped operating in the US after it reached a $1.2 million settlement with the CFTC in 2022 for failing to register with the agency. Since then, Polymarket doesn’t officially operate in the US. US users are blocked from the site with geo-fencing.
The Dark Side of Election Markets
Cantrell Dumas, director of derivatives policy for nonprofit and non-partisan financial organization Better Markets, told Cointelegraph that prediction markets may be understood as a public good, but “only under certain conditions.”
Dumas believes that larger betting markets, such as Kalshi or Polymarket, could raise concerns about the commercialization of elections, undermining public trust. He explained that for prediction markets to be beneficial, “they must adhere to strict oversight and the academic, non-speculative model.”
Dumas said that there is low public confidence in democracy among US citizens since former President Donald Trump claimed the 2020 elections were “rigged” and “fraudulent.” He believes these accusations led to widespread belief among many voters that the election system is untrustworthy.
Bottom Line
The debate on prediction markets continues to be a hot topic. While some see them as a valuable tool for forecasting and risk management, others worry about their potential to undermine public trust in democratic processes. What's your take on this issue? Do you think prediction markets are a public good or a risk to democracy? Share your thoughts and discuss this article with your friends. Don't forget to sign up for the Daily Briefing, which is every day at 6pm.
