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Interpreting the Predictions of Prediction Markets

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  • Charles F. Manski

Abstract

Participants in prediction markets such as the Iowa Electronic Markets trade all-or-nothing contracts that pay a dollar if and only if specified future events occur. Researchers engaged in empirical study of prediction markets have argued broadly that equilibrium prices of the contracts traded are market probabilities' that the specified events will occur. This paper shows that if traders are risk-neutral price takers with heterogenous beliefs, the price of a contract in a prediction market reveals nothing about the dispersion of traders' beliefs and partially identifies the central tendency of beliefs. Most persons have beliefs higher than price when price is above 0.5, and most have beliefs lower than price when price is below 0.5. The mean belief of traders lies in an interval whose midpoint is the equilibrium price. These findings persist even if traders use price data to revise their beliefs in plausible ways.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 10359.

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Date of creation: Mar 2004
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Publication status: published as Manski, Charles F. "Interpreting the Predictions of Prediction Markets." Economics Letters 91, 3 (June 2006): 425-29.
Handle: RePEc:nbr:nberwo:10359

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  1. Jeff Dominitz & Charles F. Manski, 2004. "How Should We Measure Consumer Confidence?," Journal of Economic Perspectives, American Economic Association, vol. 18(2), pages 51-66, Spring.
  2. J. Dominitz & C. F. Manski, . "Perceptions of Economic Insecurity: Evidence from the Survey of Economic Expectations," Institute for Research on Poverty Discussion Papers 1105-96, University of Wisconsin Institute for Research on Poverty.
  3. Justin Wolfers & Eric Zitzewitz, 2004. "Prediction Markets," NBER Working Papers 10504, National Bureau of Economic Research, Inc.
  4. Forsythe, Robert & Forrest Nelson & George R. Neumann & Jack Wright, 1992. "Anatomy of an Experimental Political Stock Market," American Economic Review, American Economic Association, vol. 82(5), pages 1142-61, December.
  5. Steven Gjerstad, 2004. "Risk Aversion, Beliefs, and Prediction Market Equilibrium," Microeconomics 0411002, EconWPA.
  6. repec:reg:rpubli:259 is not listed on IDEAS
  7. Charles F. Manski, 2004. "Measuring Expectations," Econometrica, Econometric Society, Econometric Society, vol. 72(5), pages 1329-1376, 09.
  8. repec:reg:wpaper:259 is not listed on IDEAS
  9. Emir Shuford & Arthur Albert & H. Edward Massengill, 1966. "Admissible probability measurement procedures," Psychometrika, Springer, vol. 31(2), pages 125-145, June.
  10. Leigh, Andrew & Wolfers, Justin & Zitzewitz, Eric, 2003. "What do Financial Markets Think of War in Iraq?," Research Papers 1785, Stanford University, Graduate School of Business.
  11. Manski, C.F., 1989. "The Use Of Intentions Data To Predict Behaviour : A Best- Case Analysis," Working papers 8905, Wisconsin Madison - Social Systems.
  12. Brown, Lawrence D. & Lin, Yi, 2003. "Racetrack betting and consensus of subjective probabilities," Statistics & Probability Letters, Elsevier, vol. 62(2), pages 175-187, April.
  13. Ali, Mukhtar M, 1977. "Probability and Utility Estimates for Racetrack Bettors," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 85(4), pages 803-15, August.
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