Using Prediction Markets to Guide Government Policy
Using Prediction Markets to Guide Government Policy
If you use prediction markets to determine government policy then rational (and irrational) actors will manipulate the prediction markets in order to manipulate government policy. If you use prediction markets to predict government policy then rational (and irrational) actors will manipulate governments in order to create alpha in the prediction markets.
In Your Enemies Can Use Your Prediction Markets Against You I explained how Mars could use a prediction market created by Earth to incentivize space pirates to overthrow the pro-Earth government of Ceres.
Suppose you’re the governor of Ceres and you want to protect Ceres from space pirates. One way to protect Ceres from space pirates is to buy a laser defense array, but lasers are expensive and weapons are negative sum. Is there cheaper alternative?
Yes. You can manipulate market prices.
Mars is not acting against you directly. They are buying insurance in a market that pays anyone who can turn the Ceres government into a pro-Mars regime. Space pirates can profit by buying shares in the prediction market that pay money if Ceres shifts to a pro-Mars stance and then invading Ceres.
The prediction market has limited liquidity. If you use taxpayer dollars to buy those shares first then space pirates won’t be incentivized to invade Ceres. (This strategy works (albeit more expensively) if you buy the shares second too, because space pirates could just sell their shares to you at a profit without having to bother actually assaulting Ceres.)
You win because you don’t have to fight the pirates. The pirates win because they don’t have to fight you. Ceres taxpayers lose because they have to pay the Dogecoin which goes (indirectly) into the pockets of space pirates—but that might be better than being raided, pillaged and plundered. Is there a way to buy up all the shares while earning lots of money instead of losing lots of money?
Yes. You can manipulate government policy.
Step 1: Buy all the shares that pay money if the Ceres government turns pro-Mars because otherwise space pirates would invade Ceres.
Step 2: Now that you’re bought all those shares, you can profit by pivoting your foreign policy to be pro-Mars.
Taxpayers win. All they had to do was sell their government to the highest bidder.
I just want to point out, as a matter of principle, that figuring out the Nash equilibria in these sorts of cases is non-trivial and you can’t necc. get a good sense of them by reasoning informally. (I’m not claiming that the Nash equilibrium will be achieved in practice; it’s just, like, the simplest coherent model.)
I’m not sure if anyone has worked out the formal consequences of prediction markets in this sense! Maybe no one has! My inner-sim anticipation is that an academic studying prediction markets will not have analyzed this type of case, because it’ll have been obvious that you don’t get ‘good’ results.
Only if you buy the shares second, right? If they would have fought without your manipulation, they think they’re better off getting paid and fighting you.
The order has some impact but that’s a second-order effect compared to volume of shares you buy. The most important question is whether the difference between Ceres’ purchases minus Mars’ purchases exceed market speculators’ available liquidity.
Hm. This is the most important question for how much utility the pirates get? I agree it’s the most important for deciding whether the pirates attack you or not. I feel like it’s not surprising if the order affects which point on the Pareto frontier we end up at.
Has this line got a typo, or am I misunderstanding? Don’t the pirates profit by buying pro-Mars shares, then invading to make Ceres pro-Mars (because Ceres is already pro-Earth)?
Mars bought pro-Earth to make pro-Mars more profitable, in the hope that pirates would buy pro-Mars and then invade.
You are correct I have fixed the error. Thank you.
I would’ve liked to see Ukraine sell Crimea to Russia. Russia spends less and the Russians are impressed that Putin’s army is intimidating enough that neighbors sell their land. Ukrainians would have protested all the way to the bank.