I submit that yes, many of the events LW/transhumanists/techno-futurists are interested in are being priced in financial markets right now. The financial markets are making guesses about robotics, nano- and materials tech, the prospect of nuclear exchanges, food insecurity, plagues, gene therapies, and other fancy ideas.
I’d also submit that many of the things not being priced in today’s markets are extremely difficult to gain any info about, much less predict. They look much less like shares of companies or even CDOs, and much more like betting on soccer games.
I’d further submit—and I’d be willing to bet on this—that within a short period of creating a large incentive for catastrophe, wicked people will do something horrible to win a bet.
I’d further submit—and I’d be willing to bet on this—that within a short period of creating a large incentive for catastrophe, wicked people will do something horrible to win a bet.
This is trivial to do now: buy oil futures and short oil companies, and blow up a pipeline. Oil-related contracts are notoriously volatile (amplifying gains) and such an attack would make a real difference. Yet despite John Robb’s predictions that ‘terrorist entrepreneurs’ would fund their organizations this way, we have yet to see this.
But we do see behavior like this—not via spectacular attacks in the developed world, which would be extremely high risk, but via much more sophisticated, lower risk methods. Moving paper is much easier (and higher-reward) than violent crime. Spectacular attacks on oil facilities and assassinations of regulatory officials do occur, but they’re usually in the developing world, much farther from cameras, and they’re usually conducted by people who don’t have slicker methods at hand.
And those are in capital markets, where people can make a profit without ever beating the average. Betting markets don’t work that way. We always see behavior like this in betting markets. Competitors threatened or hurt or drugged, refs paid off or intimidated, bad information leaked to the public. Why would a betting market concerned with the political future look different than a betting market concerned with jai-alai?
But we do see behavior like this—not via spectacular attacks in the developed world, which would be extremely high risk, but via much more sophisticated, lower risk methods.
So you’re just claiming that ‘all white-collar crime’ proves your thesis? But that defeats your worries: we seem to be perfectly able to tolerate existing levels of financial market corruption and collusion, and no one seems to seriously think that we would be better off shutting down the stock market and all other financial markets, not using them at all, which is the equivalent of ‘not using political prediction markets at all’.
Why would a betting market concerned with the political future look different than a betting market concerned with jai-alai?
Why does a political market look more like a jai-alai betting market than a wheat or pork bellies betting market?
Why does a political market look more like a jai-alai betting market than a wheat or pork bellies betting market?
One reason stock markets work as well as they do, and bond markets, and commodities markets, and all other financial markets, is that market participants have access to tremendous amounts of information about what they’re investing in. Bets about singular events decades away are as far from pork bellies as you can get. Another reason they work as well as they do is that somebody does own something, whether’s that’s debt or insurance or agricultural futures or actual timber land. Another reason is that it’s generally possible to make money without beating the other guy. You don’t have to be risk prone to invest. These are features of financial markets that are not present in pure gambling markets.
Bets about singular events decades away are as far from pork bellies as you can get.
I don’t see why that is. Political events are not tuned for maximal randomness, they are the results of many real-world trends and forces. Is a bet on China’s GDP 10 years from now really ‘as far from pork bellies as you can get’? There seems to be to be a vast wealth of theories and data one could, and people do, apply to such a question to do better than a coinflip. Are Hillary Clinton’s prospects for winning the next presidential election really as fundamentally unpredictable now as the winners of the next Superbowl or Superball? I don’t think it is.
Another reason they work as well as they do is that somebody does own something, whether’s that’s debt or insurance or agricultural futures or actual timber land.
You do own something at the end of it: a promise to pay from the losing party. This is as much as you own if you buy a bond or T-bill or mortgage, and the fact that you can’t hold a bond the way you can hold a pork belly doesn’t seem to stop people.
Another reason is that it’s generally possible to make money without beating the other guy.
Subsidized prediction markets are also banned. There are reasons to use a PM even with a zero-sum payout, such as hedging or entertainment. And in practice, despite the zero-sum nature, existing prediction markets like Intrade did have users.
The financial markets are making guesses about robotics, nano- and materials tech, the prospect of nuclear exchanges, food insecurity, plagues, gene therapies, and other fancy ideas.
I am not sure. How are financial markets pricing, say, the prospect of nuclear exchanges? Or plagues?
I’d further submit—and I’d be willing to bet on this—that within a short period of creating a large incentive for catastrophe, wicked people will do something horrible to win a bet.
Well, that’s just usually called crime—unless a government does it in which case it’s called policy. Wars have been started for financial gain, millions of people have been killed for political power, etc. etc. Are you suggesting there will be something new in this respect?
I’m suggesting that there’s very little upside to the project compared to the downside.
Best case scenario, you get some very interested people with minimal information and strongly held beliefs betting on very long timelines with slow and irregular feedback to adjust their bets. It looks much more like the line on the World Cup than it does the price of Exxon, except that there’s less historical data and less ability to adjust positions than you have in sports gambling. How much insight does this kind of betting market give you?
Worst case scenario, you get massive incentives for people to wish for disaster. Maybe you disagree that this leads to somebody dropping prions into cattle feed. Fair enough. But people do respond to incentives.
Edit to answer your first question regarding nuclear exchanges: Israel’s stock market, and India’s, move in response to investors’ perceptions of Iran and Pakistan. Ditto everybody within the vicinity of the DPRK. Pharmaceutical companies’ prices reflect investors’ predictions about the likelihood of massive demand.
How much insight does this kind of betting market give you?
Compared to what, to zero?
Worst case scenario, you get massive incentives for people to wish for disaster.
I and gwern have already pointed out to you that such incentives exist right now and have existed for most of human history.
Edit to answer your first question regarding nuclear exchanges: Israel’s stock market, and India’s, move in response to investors’ perceptions of Iran and Pakistan. Ditto everybody within the vicinity of the DPRK. Pharmaceutical companies’ prices reflect investors’ predictions about the likelihood of massive demand.
So, let’s be more specific since it seems to me there is a bit of entanglement problem here. Right now, how does the market price the probability of a nuclear exchange involving Israel? India? DPRK? How does the market price the probability of a global pandemic?
You’re looking for a clear mechanism of risk assessment(and I guess maybe the actual risk discount?) embedded in markets with an eye on nukes/pandemics? Wish I had that for you. Obviously, nobody knows. Somebody will probably pay you very well if you can describe such a mechanism plausibly. And no, it’s not clear that the markets are pricing the risk appropriately. They don’t even always price IPOs and corporate bonds appropriately. It’s just clear that they’re pricing them.
Which takes us back to “more insight than zero.” Not a very high bar. One that we already meet, because we do have more than zero insight about the future. Prediction markets are only useful if they give us more and more reliable information than we can get through other channels.
Maybe I can clean up my argument, which has been stretched over several responses now:
1) While they are superficially similar, financial markets are much more sophisticated than simple gambling, and generally better for participants and bystanders.
2) Both financial markets and gambling create bad incentives and bad behavior: the structure of gambling has historically created more bad incentives and more bad behavior.
3) A political/catastrophic risk futures market looks more like gambling than a mature financial market.
4) It is unreasonable to suppose that we would gain more insight into the future from such a market than we could gain from our current financial markets and other channels.
5) It is unreasonable to suppose that the perverse incentives such a market would create would not have consequences.
Well, do the markets price these things, then? Let me draw a difference here.
The financial markets price credit risk. This means that from observable market prices I can calculate the implied probability of default for a given entity. The financial markets price, say, the future Fed decisions on rates—from observable market prices I can calculate the implied probability of the Fed raising or lowering the rates by a given amount at the next meeting.
I cannot calculate the implied probability of a nuclear exchange or of a pandemic from observable market prices.
With respect to your points,
I agree with (1), though I have doubts about the “better” part.
(2) seems meaningless to me: life creates bad incentives and bad behaviour. The fact that my neighbour has a shiny foozle and I don’t creates incentives for me to bonk him over the head and take his foozle.
For (3) I don’t know why you think so. There are financial markets in insurance and reinsurance risks (concerned with catastrophes like hurricanes and earthquakes), there are financial markets in sovereign debt (highly concerned with political risk) -- what’s so special about long-term catastrophic risk?
I disagree with (4) -- I see no reason to think it’s “unreasonable” :-) You’re making a naked assertion, it needs supporting arguments.
(5) is an empty phrase—everything has consequences.
So, you can calculate the implied probability of credit default because you can model credit obligations as priced by two factors only: yield and default risk. This is a crude model and won’t actually predict all bond prices in the real world (though it’ll come close), because people buy bonds for other reasons and the actual price of bonds tells you one fact: what people will pay for them. Everything else is just a model to get you there.
Apologies, because you know this. I’m not trying to patronize you. But please don’t patronize me. The fact that much more complicated factors that go into pricing stocks can’t easily be sussed out doesn’t mean they don’t exist. And it doesn’t mean that we can’t identify them ever, or ever see their significance. The fact that we cannot calculate something precisely doesn’t mean it’s useless.
It seems like the appeal of a betting market is that you would have something easy to understand. Not right, or sophisticated, or predictive. But you’d immediately be able to tell whether the George Mason Economics Department assigned 3:1 or 1:3 odds to Skynet emerging before 2037. It’s searching under the streetlamp.
2) Bad incentives in life have to be evaluated in context. We don’t have a foozle-bonking epidemic in Louisville, KY because of the rule of law in Louisville, KY. People in failed states worry all the time about foozle-bonking. People involved in large gambling arenas also worry all the time about foozle-bonking, because—and we don’t need a mechanism here, because we’ve got the history—other people involved in gambling respond poorly to the incentives of law and extremely poorly to the loss of their foozles.
3) If betting markets like this are limited to huge events hard for individuals or small cabals to influence, then sure, I see little problem. Nobody’s going to build Gray Goo to win a bet any more than anybody’s going to summon a hurricane magically, though people will and have destabilized governments to win bets against currencies. I was assuming a market like this would also bet on near-term mini-catastrophes. On things like swine flu making the jump again, or leaks of methyl parathion into water supplies. So maybe I’m conceiving of this incorrectly.
4) Two quick, imperfect thought experiments: I give you a million dollars to invest and access to your choice of five investment options. Do you give your money to
Goldman Sachs
Bridgewater Associates
PIMCO
A retired four-term US Senator of your choice starting a hedge fund with zero investing experience
The smartest three professors you can find in the George Mason Economics Department
Next, the betting market you want is established, and accumulates a total capitalization of about $100 million. There are many small bettors, but high net worth players include futurists, Cory Doctorow, the guys who wrote Freakonomics, the Ludwig von Mises Institute, the Danish royal family, and some whales who used to bet heavily on the NBA. In 2015, this market starts betting heavily that a certain start-up will unveil an android that can pass a meatspace Turing test while shooting pistols and riding a horse within the next ten years. You can in fact bet a dollar against a payoff of twenty dollars in this market if you don’t think this will happen. At the same time, this company’s stock plateaus, and you see that institutional investors are quietly exiting their positions while investment banks happily sell their shares to individual clients. The company’s IPO was pushed back as they looked for a new investment bank to handle their offering. How do you bet?
5) So is there any difference in defaulting when a bank owns the loan and when Charlie owns the loan? Charlie works out of the back of a liquor store and lists his occupation as “a little of this, a little of that.” The loan’s the same in the two cases, so Charlie and the bank take the same loss if/when you default.
So, you can calculate the implied probability of credit default because you can model credit obligations
Actually, no. I can calculate the implied probability because I can build an arbitrage trade and solve for the probability needed to make its expected return (adjusted for cost of capital, etc.) zero. If I forecast a different default probability I can put this trade on and expect to be paid for being right.
The fact that much more complicated factors that go into pricing stocks can’t easily be sussed out doesn’t mean they don’t exist.
Oh, they exist. But if you can’t “suss them out”, the usefulness of financial markets for estimating the probabilities involved in these factors is very limited, is it not?
..easy to understand
Depends on whether that is your goal. In many circumstances trading easiness of understanding for higher predictive power is a good trade-off.
I was assuming a market like this would also bet on near-term mini-catastrophes. On things like swine flu making the jump again, or leaks of methyl parathion into water supplies.
I don’t know if it would. Ireland has pretty well developed betting markets, you can bet on a large variety of political, etc. predictions there. I haven’t seen bets on poisoning water supplies—don’t forget that first you need a counterparty to take your bet, and second, your ability to collect might be compromised by nice gentlemen in black government cars who want to have a chat with you about that poisoning incident...
I give you a million dollars to invest...
I don’t understand the point. Are you making an argument about competency? Or are you saying that markets are not infallible?
In 2015, this market starts betting heavily...
I still don’t understand the point. No one is claiming that markets (in particular, prediction markets) are always right or always point you in the right direction. The are useful but not magical. The market price, as you know, is just a capital-weighted average of opinions. If the market participants are deluded or, for example, have different payoffs than you think, the market opinion will be “wrong”.
Prediction markets provide useful data. They are not a supernatural compass that is always correct.
I can calculate the implied probability because I can build an arbitrage trade and solve for the probability needed to make its expected return (adjusted for cost of capital, etc.) zero. If I forecast a different default probability I can put this trade on and expect to be paid for being right.
This is a distinction without a difference. The point is that prices can be thought of as reflecting just two variables, return and risk, while risk itself is extremely difficult to unpack. But that doesn’t mean we can’t unpack it at all, or gain valuable information about the chances of, say, bird flu.
Here’s a real world example of a very specific long term prediction pertinent to the LW community that I am willing to make based on the financial markets: cryogenics will fail. There is enough possible return on an investment in a successful cryogenics company that investors with long horizons would be flooding into the field if it were feasible.
Prediction markets provide useful data. They are not a supernatural compass that is always correct.
I agree completely.
We seem to disagree about what any sort of real-world catastrophe gambling market would look like, and the cost-benefit. Neither of us has a perfect real world example to point to, though InTrade et al. are somewhat similar, as are today’s sports betting markets. It sounds like you think this would wind up looking like InTrade, which doesn’t seem to involve many bad actors*. I think that to produce useful predictions it would have to be much larger, and look much more like the global sports betting market, which does involve many bad actors.
*edit: obviously, InTrade itself may have been a bad/criminal actor. But that’s not what we’re talking about, and I’m willing to stipulate that InTrade did not produce problems across the world.
This is rebuttal to your assertion that ”..is a crude model and won’t actually predict all bond prices in the real world”. The no-arbitrage approach does not depend on modeling credit obligations. It also doesn’t require thinking about which variables prices reflect.
There is enough possible return on an investment in a successful cryogenics company that investors with long horizons would be flooding into the field if it were feasible.
Huh? First, I don’t think long-term business prospects of cryogenics companies look good for the simple reason that they collect some money now and then have to pay costs for an indefinite period in the future. The long-term expected return is highly uncertain and can easily turn out to be negative. Second, from the purely investment perspective it doesn’t matter whether cryogenics would turn out to be feasible in reality, all you need is for sufficient number of people to believe so.
We seem to disagree about what any sort of real-world catastrophe gambling market would look like
Probably. Though, again, real-world catastrophe markets exist right now. There are easy ways to bet on, say, Miami being wiped out by a hurricane or on the Japanese financial system imploding under the weight of the sovereign debt.
The major difference from sports betting is that it’s easy to influence the outcome of a match. It’s not easy to increase the chance or the severity of a large-scale catastrophe.
Probably. Though, again, real-world catastrophe markets exist right now. There are easy ways to bet on, say, Miami being wiped out by a hurricane or on the Japanese financial system imploding under the weight of the sovereign debt. The major difference from sports betting is that it’s easy to influence the outcome of a match. It’s not easy to increase the chance or the severity of a large-scale catastrophe.
For whatever reason, and again, we don’t need to know the mechanism because we know the history, large numbers of gamblers behave differently than large numbers of investors. You can bet on a sports team doing well by buying the team, or buying real estate near the stadium or buying concessions rights in the stadium, or buying autographs to sell later on eBay, or you can bet through a bookie. The guys betting through bookies are the ones fixing matches, not the concessionaires. And they will go to extraordinary lengths to fix matches.
because we know the history, large numbers of gamblers behave differently than large numbers of investors.
That is not self-evident to me.
You can bet on a sports team doing well by buying the team … or you can bet through a bookie. The guys betting through bookies are the ones fixing matches …
I would strongly disagree. People owning the teams fix the entire system and so don’t need to fix individual matches. You do know that baseball owners have a special anti-trust exemption, right? Why do they need it and what do they do with it, you think?
Investors as opposed to gamblers fix thing on a much bigger scale and normally through politics. Agricultural subsidies? High import tariffs? That’s all the system being fixed for someone’s advantage.
I would strongly disagree. People owning the teams fix the entire system
You agree that the gamblers are fixing the matches. And I don’t disagree with you that owners are fixing the system.
Investors as opposed to gamblers fix thing on a much bigger scale and normally through politics. Agricultural subsidies? High import tariffs? That’s all the system being fixed for someone’s advantage.
You’re not wrong.
But whether or not investors and gamblers have equivalent senses of fair play, the latter is more likely to seek unlawful opportunities for profit. My point (5) above may have seemed silly, but there is a real difference between what a bank will do to you to recover money owed and what Charlie who works out the back of a liquor store will do, even though they have one incentive in common. And there is a big difference between what Aubrey McClendon will do to make sure his “bets” on oil wells pay off and what Joe who bets the fights will do to make sure his boxer wins.
And if Joe stumbles upon a group of people betting on the level of synthetic estrogen found in the metro’s tap water at a certain date...well, birth control pills are pretty cheap and impossible to trace.
But whether or not investors and gamblers have equivalent senses of fair play, the latter is more likely to seek unlawful opportunities for profit.
I still do not agree. I think there’s some confusion about cause and effect going on. Gambling used to be mostly illegal with all the consequences thereof—that’s where your “Charlie who works out the back of a liquor store” meme comes from.
Things have changed. Las Vegas and Indian casinos are full of law-abiding middle class people who want a little excitement and not looking to get into any trouble. They are gamblers, but they are not going to break anyone’s legs.
In any case, we’ve strayed far afield from the original question of whether markets where you can bet on catastrophes are a bad idea. Do you still think they are?
I agree that there’s a mostly safe and clean (but too often smoke-filled :( )space for gambling in the US now. There’s still a lot of shadiness in sports gambling, even though there are places to bet legally on games.
This has been a great exchange for me, and I appreciate it, so thank you! It’s helped me clarify my thinking on prediction markets.
I think niche prediction markets interested mostly in existential risk and AI are likely to be too small and eccentric to be good predictors, and that truly massive global predictions markets will involve shadiness. But I can see something in between, with real capital and a broad set of well-informed bettors, and some sort of mechanism to identify and track bettors, providing good information on near term events with little downside.
What do you think are the best and worse case scenarios for prediction markets?
What do you think are the best and worse case scenarios for prediction markets?
I don’t think that long-term prediction markets will have earthshattering consequences given that they will complement the existing financial markets.
Worst case: the US government (and others) continues to insist they’re illegal gambling, they don’t take off, nothing happens. I’m not considering movie-type scenarios in which an evil mastermind manipulates the prediction markets to fool the good guys and TAKE OVER THE WORLD!!!
Best case: the prediction markets do take off, become popular, continue to be independent and reasonably resistant to manipulation, and provide valuable data about the revealed predictions of the public.
Great, we’re on the same track.
I submit that yes, many of the events LW/transhumanists/techno-futurists are interested in are being priced in financial markets right now. The financial markets are making guesses about robotics, nano- and materials tech, the prospect of nuclear exchanges, food insecurity, plagues, gene therapies, and other fancy ideas.
I’d also submit that many of the things not being priced in today’s markets are extremely difficult to gain any info about, much less predict. They look much less like shares of companies or even CDOs, and much more like betting on soccer games.
I’d further submit—and I’d be willing to bet on this—that within a short period of creating a large incentive for catastrophe, wicked people will do something horrible to win a bet.
This is trivial to do now: buy oil futures and short oil companies, and blow up a pipeline. Oil-related contracts are notoriously volatile (amplifying gains) and such an attack would make a real difference. Yet despite John Robb’s predictions that ‘terrorist entrepreneurs’ would fund their organizations this way, we have yet to see this.
But we do see behavior like this—not via spectacular attacks in the developed world, which would be extremely high risk, but via much more sophisticated, lower risk methods. Moving paper is much easier (and higher-reward) than violent crime. Spectacular attacks on oil facilities and assassinations of regulatory officials do occur, but they’re usually in the developing world, much farther from cameras, and they’re usually conducted by people who don’t have slicker methods at hand.
And those are in capital markets, where people can make a profit without ever beating the average. Betting markets don’t work that way. We always see behavior like this in betting markets. Competitors threatened or hurt or drugged, refs paid off or intimidated, bad information leaked to the public. Why would a betting market concerned with the political future look different than a betting market concerned with jai-alai?
So you’re just claiming that ‘all white-collar crime’ proves your thesis? But that defeats your worries: we seem to be perfectly able to tolerate existing levels of financial market corruption and collusion, and no one seems to seriously think that we would be better off shutting down the stock market and all other financial markets, not using them at all, which is the equivalent of ‘not using political prediction markets at all’.
Why does a political market look more like a jai-alai betting market than a wheat or pork bellies betting market?
One reason stock markets work as well as they do, and bond markets, and commodities markets, and all other financial markets, is that market participants have access to tremendous amounts of information about what they’re investing in. Bets about singular events decades away are as far from pork bellies as you can get. Another reason they work as well as they do is that somebody does own something, whether’s that’s debt or insurance or agricultural futures or actual timber land. Another reason is that it’s generally possible to make money without beating the other guy. You don’t have to be risk prone to invest. These are features of financial markets that are not present in pure gambling markets.
I don’t see why that is. Political events are not tuned for maximal randomness, they are the results of many real-world trends and forces. Is a bet on China’s GDP 10 years from now really ‘as far from pork bellies as you can get’? There seems to be to be a vast wealth of theories and data one could, and people do, apply to such a question to do better than a coinflip. Are Hillary Clinton’s prospects for winning the next presidential election really as fundamentally unpredictable now as the winners of the next Superbowl or Superball? I don’t think it is.
You do own something at the end of it: a promise to pay from the losing party. This is as much as you own if you buy a bond or T-bill or mortgage, and the fact that you can’t hold a bond the way you can hold a pork belly doesn’t seem to stop people.
Subsidized prediction markets are also banned. There are reasons to use a PM even with a zero-sum payout, such as hedging or entertainment. And in practice, despite the zero-sum nature, existing prediction markets like Intrade did have users.
I am not sure. How are financial markets pricing, say, the prospect of nuclear exchanges? Or plagues?
Well, that’s just usually called crime—unless a government does it in which case it’s called policy. Wars have been started for financial gain, millions of people have been killed for political power, etc. etc. Are you suggesting there will be something new in this respect?
I’m suggesting that there’s very little upside to the project compared to the downside.
Best case scenario, you get some very interested people with minimal information and strongly held beliefs betting on very long timelines with slow and irregular feedback to adjust their bets. It looks much more like the line on the World Cup than it does the price of Exxon, except that there’s less historical data and less ability to adjust positions than you have in sports gambling. How much insight does this kind of betting market give you?
Worst case scenario, you get massive incentives for people to wish for disaster. Maybe you disagree that this leads to somebody dropping prions into cattle feed. Fair enough. But people do respond to incentives.
Edit to answer your first question regarding nuclear exchanges: Israel’s stock market, and India’s, move in response to investors’ perceptions of Iran and Pakistan. Ditto everybody within the vicinity of the DPRK. Pharmaceutical companies’ prices reflect investors’ predictions about the likelihood of massive demand.
Compared to what, to zero?
I and gwern have already pointed out to you that such incentives exist right now and have existed for most of human history.
So, let’s be more specific since it seems to me there is a bit of entanglement problem here. Right now, how does the market price the probability of a nuclear exchange involving Israel? India? DPRK? How does the market price the probability of a global pandemic?
You’re looking for a clear mechanism of risk assessment(and I guess maybe the actual risk discount?) embedded in markets with an eye on nukes/pandemics? Wish I had that for you. Obviously, nobody knows. Somebody will probably pay you very well if you can describe such a mechanism plausibly. And no, it’s not clear that the markets are pricing the risk appropriately. They don’t even always price IPOs and corporate bonds appropriately. It’s just clear that they’re pricing them.
Which takes us back to “more insight than zero.” Not a very high bar. One that we already meet, because we do have more than zero insight about the future. Prediction markets are only useful if they give us more and more reliable information than we can get through other channels.
Maybe I can clean up my argument, which has been stretched over several responses now:
1) While they are superficially similar, financial markets are much more sophisticated than simple gambling, and generally better for participants and bystanders.
2) Both financial markets and gambling create bad incentives and bad behavior: the structure of gambling has historically created more bad incentives and more bad behavior.
3) A political/catastrophic risk futures market looks more like gambling than a mature financial market.
4) It is unreasonable to suppose that we would gain more insight into the future from such a market than we could gain from our current financial markets and other channels.
5) It is unreasonable to suppose that the perverse incentives such a market would create would not have consequences.
Well, do the markets price these things, then? Let me draw a difference here.
The financial markets price credit risk. This means that from observable market prices I can calculate the implied probability of default for a given entity. The financial markets price, say, the future Fed decisions on rates—from observable market prices I can calculate the implied probability of the Fed raising or lowering the rates by a given amount at the next meeting.
I cannot calculate the implied probability of a nuclear exchange or of a pandemic from observable market prices.
With respect to your points,
I agree with (1), though I have doubts about the “better” part.
(2) seems meaningless to me: life creates bad incentives and bad behaviour. The fact that my neighbour has a shiny foozle and I don’t creates incentives for me to bonk him over the head and take his foozle.
For (3) I don’t know why you think so. There are financial markets in insurance and reinsurance risks (concerned with catastrophes like hurricanes and earthquakes), there are financial markets in sovereign debt (highly concerned with political risk) -- what’s so special about long-term catastrophic risk?
I disagree with (4) -- I see no reason to think it’s “unreasonable” :-) You’re making a naked assertion, it needs supporting arguments.
(5) is an empty phrase—everything has consequences.
So, you can calculate the implied probability of credit default because you can model credit obligations as priced by two factors only: yield and default risk. This is a crude model and won’t actually predict all bond prices in the real world (though it’ll come close), because people buy bonds for other reasons and the actual price of bonds tells you one fact: what people will pay for them. Everything else is just a model to get you there.
Apologies, because you know this. I’m not trying to patronize you. But please don’t patronize me. The fact that much more complicated factors that go into pricing stocks can’t easily be sussed out doesn’t mean they don’t exist. And it doesn’t mean that we can’t identify them ever, or ever see their significance. The fact that we cannot calculate something precisely doesn’t mean it’s useless.
It seems like the appeal of a betting market is that you would have something easy to understand. Not right, or sophisticated, or predictive. But you’d immediately be able to tell whether the George Mason Economics Department assigned 3:1 or 1:3 odds to Skynet emerging before 2037. It’s searching under the streetlamp.
2) Bad incentives in life have to be evaluated in context. We don’t have a foozle-bonking epidemic in Louisville, KY because of the rule of law in Louisville, KY. People in failed states worry all the time about foozle-bonking. People involved in large gambling arenas also worry all the time about foozle-bonking, because—and we don’t need a mechanism here, because we’ve got the history—other people involved in gambling respond poorly to the incentives of law and extremely poorly to the loss of their foozles.
3) If betting markets like this are limited to huge events hard for individuals or small cabals to influence, then sure, I see little problem. Nobody’s going to build Gray Goo to win a bet any more than anybody’s going to summon a hurricane magically, though people will and have destabilized governments to win bets against currencies. I was assuming a market like this would also bet on near-term mini-catastrophes. On things like swine flu making the jump again, or leaks of methyl parathion into water supplies. So maybe I’m conceiving of this incorrectly.
4) Two quick, imperfect thought experiments: I give you a million dollars to invest and access to your choice of five investment options. Do you give your money to
Goldman Sachs
Bridgewater Associates
PIMCO
A retired four-term US Senator of your choice starting a hedge fund with zero investing experience
The smartest three professors you can find in the George Mason Economics Department
Next, the betting market you want is established, and accumulates a total capitalization of about $100 million. There are many small bettors, but high net worth players include futurists, Cory Doctorow, the guys who wrote Freakonomics, the Ludwig von Mises Institute, the Danish royal family, and some whales who used to bet heavily on the NBA. In 2015, this market starts betting heavily that a certain start-up will unveil an android that can pass a meatspace Turing test while shooting pistols and riding a horse within the next ten years. You can in fact bet a dollar against a payoff of twenty dollars in this market if you don’t think this will happen. At the same time, this company’s stock plateaus, and you see that institutional investors are quietly exiting their positions while investment banks happily sell their shares to individual clients. The company’s IPO was pushed back as they looked for a new investment bank to handle their offering. How do you bet?
5) So is there any difference in defaulting when a bank owns the loan and when Charlie owns the loan? Charlie works out of the back of a liquor store and lists his occupation as “a little of this, a little of that.” The loan’s the same in the two cases, so Charlie and the bank take the same loss if/when you default.
Actually, no. I can calculate the implied probability because I can build an arbitrage trade and solve for the probability needed to make its expected return (adjusted for cost of capital, etc.) zero. If I forecast a different default probability I can put this trade on and expect to be paid for being right.
Oh, they exist. But if you can’t “suss them out”, the usefulness of financial markets for estimating the probabilities involved in these factors is very limited, is it not?
Depends on whether that is your goal. In many circumstances trading easiness of understanding for higher predictive power is a good trade-off.
I don’t know if it would. Ireland has pretty well developed betting markets, you can bet on a large variety of political, etc. predictions there. I haven’t seen bets on poisoning water supplies—don’t forget that first you need a counterparty to take your bet, and second, your ability to collect might be compromised by nice gentlemen in black government cars who want to have a chat with you about that poisoning incident...
I don’t understand the point. Are you making an argument about competency? Or are you saying that markets are not infallible?
I still don’t understand the point. No one is claiming that markets (in particular, prediction markets) are always right or always point you in the right direction. The are useful but not magical. The market price, as you know, is just a capital-weighted average of opinions. If the market participants are deluded or, for example, have different payoffs than you think, the market opinion will be “wrong”.
Prediction markets provide useful data. They are not a supernatural compass that is always correct.
This is a distinction without a difference. The point is that prices can be thought of as reflecting just two variables, return and risk, while risk itself is extremely difficult to unpack. But that doesn’t mean we can’t unpack it at all, or gain valuable information about the chances of, say, bird flu.
Here’s a real world example of a very specific long term prediction pertinent to the LW community that I am willing to make based on the financial markets: cryogenics will fail. There is enough possible return on an investment in a successful cryogenics company that investors with long horizons would be flooding into the field if it were feasible.
I agree completely.
We seem to disagree about what any sort of real-world catastrophe gambling market would look like, and the cost-benefit. Neither of us has a perfect real world example to point to, though InTrade et al. are somewhat similar, as are today’s sports betting markets. It sounds like you think this would wind up looking like InTrade, which doesn’t seem to involve many bad actors*. I think that to produce useful predictions it would have to be much larger, and look much more like the global sports betting market, which does involve many bad actors.
*edit: obviously, InTrade itself may have been a bad/criminal actor. But that’s not what we’re talking about, and I’m willing to stipulate that InTrade did not produce problems across the world.
This is rebuttal to your assertion that ”..is a crude model and won’t actually predict all bond prices in the real world”. The no-arbitrage approach does not depend on modeling credit obligations. It also doesn’t require thinking about which variables prices reflect.
Huh? First, I don’t think long-term business prospects of cryogenics companies look good for the simple reason that they collect some money now and then have to pay costs for an indefinite period in the future. The long-term expected return is highly uncertain and can easily turn out to be negative. Second, from the purely investment perspective it doesn’t matter whether cryogenics would turn out to be feasible in reality, all you need is for sufficient number of people to believe so.
Probably. Though, again, real-world catastrophe markets exist right now. There are easy ways to bet on, say, Miami being wiped out by a hurricane or on the Japanese financial system imploding under the weight of the sovereign debt.
The major difference from sports betting is that it’s easy to influence the outcome of a match. It’s not easy to increase the chance or the severity of a large-scale catastrophe.
For whatever reason, and again, we don’t need to know the mechanism because we know the history, large numbers of gamblers behave differently than large numbers of investors. You can bet on a sports team doing well by buying the team, or buying real estate near the stadium or buying concessions rights in the stadium, or buying autographs to sell later on eBay, or you can bet through a bookie. The guys betting through bookies are the ones fixing matches, not the concessionaires. And they will go to extraordinary lengths to fix matches.
That is not self-evident to me.
I would strongly disagree. People owning the teams fix the entire system and so don’t need to fix individual matches. You do know that baseball owners have a special anti-trust exemption, right? Why do they need it and what do they do with it, you think?
Investors as opposed to gamblers fix thing on a much bigger scale and normally through politics. Agricultural subsidies? High import tariffs? That’s all the system being fixed for someone’s advantage.
You agree that the gamblers are fixing the matches. And I don’t disagree with you that owners are fixing the system.
You’re not wrong.
But whether or not investors and gamblers have equivalent senses of fair play, the latter is more likely to seek unlawful opportunities for profit. My point (5) above may have seemed silly, but there is a real difference between what a bank will do to you to recover money owed and what Charlie who works out the back of a liquor store will do, even though they have one incentive in common. And there is a big difference between what Aubrey McClendon will do to make sure his “bets” on oil wells pay off and what Joe who bets the fights will do to make sure his boxer wins.
And if Joe stumbles upon a group of people betting on the level of synthetic estrogen found in the metro’s tap water at a certain date...well, birth control pills are pretty cheap and impossible to trace.
I still do not agree. I think there’s some confusion about cause and effect going on. Gambling used to be mostly illegal with all the consequences thereof—that’s where your “Charlie who works out the back of a liquor store” meme comes from.
Things have changed. Las Vegas and Indian casinos are full of law-abiding middle class people who want a little excitement and not looking to get into any trouble. They are gamblers, but they are not going to break anyone’s legs.
In any case, we’ve strayed far afield from the original question of whether markets where you can bet on catastrophes are a bad idea. Do you still think they are?
I agree that there’s a mostly safe and clean (but too often smoke-filled :( )space for gambling in the US now. There’s still a lot of shadiness in sports gambling, even though there are places to bet legally on games.
This has been a great exchange for me, and I appreciate it, so thank you! It’s helped me clarify my thinking on prediction markets.
I think niche prediction markets interested mostly in existential risk and AI are likely to be too small and eccentric to be good predictors, and that truly massive global predictions markets will involve shadiness. But I can see something in between, with real capital and a broad set of well-informed bettors, and some sort of mechanism to identify and track bettors, providing good information on near term events with little downside.
What do you think are the best and worse case scenarios for prediction markets?
I don’t think that long-term prediction markets will have earthshattering consequences given that they will complement the existing financial markets.
Worst case: the US government (and others) continues to insist they’re illegal gambling, they don’t take off, nothing happens. I’m not considering movie-type scenarios in which an evil mastermind manipulates the prediction markets to fool the good guys and TAKE OVER THE WORLD!!!
Best case: the prediction markets do take off, become popular, continue to be independent and reasonably resistant to manipulation, and provide valuable data about the revealed predictions of the public.
Nothing horribly exciting here :-)