IDEAS home Printed from https://ideas.repec.org/p/ecl/stabus/1927.html
   My bibliography  Save this paper

Prediction Markets in Theory and Practice

Author

Listed:
  • Wolfers, Justin

    (U of Pennsylvania)

  • Zitzewitz, Eric

    (Stanford U)

Abstract

Prediction Markets, sometimes referred to as "information markets," "idea futures" or "event futures", are markets where participants trade contracts whose payoffs are tied to a future event, thereby yielding prices that can be interpreted as market-aggregated forecasts. This article summarizes the recent literature on prediction markets, highlighting both theoretical contributions that emphasize the possibility that these markets efficiently aggregate disperse information, and the lessons from empirical applications which show that market-generated forecasts typically outperform most moderately sophisticated benchmarks. Along the way, we highlight areas ripe for future research.

Suggested Citation

  • Wolfers, Justin & Zitzewitz, Eric, 2006. "Prediction Markets in Theory and Practice," Research Papers 1927, Stanford University, Graduate School of Business.
  • Handle: RePEc:ecl:stabus:1927
    as

    Download full text from publisher

    File URL: http://gsbapps.stanford.edu/researchpapers/library/RP1927.pdf
    Download Restriction: no
    ---><---

    Other versions of this item:

    References listed on IDEAS

    as
    1. Manski, Charles F., 2006. "Interpreting the predictions of prediction markets," Economics Letters, Elsevier, vol. 91(3), pages 425-429, June.
    2. Wolfers, Justin & Zitzewitz, Eric, 2006. "Five Open Questions About Prediction Markets," CEPR Discussion Papers 5562, C.E.P.R. Discussion Papers.
    3. Colin F. Camerer, 1998. "Can Asset Markets Be Manipulated? A Field Experiment with Racetrack Betting," Journal of Political Economy, University of Chicago Press, vol. 106(3), pages 457-482, June.
    4. Smith, Vernon L, 1985. "Experimental Economics: Reply," American Economic Review, American Economic Association, vol. 75(1), pages 264-272, March.
    5. Erik Snowberg & Justin Wolfers & Eric Zitzewitz, 2007. "Partisan Impacts on the Economy: Evidence from Prediction Markets and Close Elections," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 122(2), pages 807-829.
    6. Knight*, Brian, 2007. "Are policy platforms capitalized into equity prices? Evidence from the Bush/Gore 2000 Presidential Election," Journal of Public Economics, Elsevier, vol. 91(1-2), pages 389-409, February.
    7. repec:reg:rpubli:259 is not listed on IDEAS
    8. Berg, Joyce & Forsythe, Robert & Nelson, Forrest & Rietz, Thomas, 2008. "Results from a Dozen Years of Election Futures Markets Research," Handbook of Experimental Economics Results, in: Charles R. Plott & Vernon L. Smith (ed.), Handbook of Experimental Economics Results, edition 1, volume 1, chapter 80, pages 742-751, Elsevier.
    9. Refet Gürkaynak & Justin Wolfers, 2005. "Macroeconomic Derivatives: An Initial Analysis of Market-Based Macro Forecasts, Uncertainty, and Risk," NBER Chapters, in: NBER International Seminar on Macroeconomics 2005, pages 11-50, National Bureau of Economic Research, Inc.
    10. Erik Snowberg & Justin Wolfers, 2010. "Explaining the Favorite-Long Shot Bias: Is it Risk-Love or Misperceptions?," Journal of Political Economy, University of Chicago Press, vol. 118(4), pages 723-746, August.
    11. Michael C. Herron & James Lavin & Donald Cram & Jay Silver, 1999. "Measurement of Political Effects in the United States Economy: A Study of the 1992 Presidential Election," Economics and Politics, Wiley Blackwell, vol. 11(1), pages 51-81, March.
    12. Sunder, S., 1992. "Experimental Asset Markets: A Survey," GSIA Working Papers 1992-19, Carnegie Mellon University, Tepper School of Business.
    13. Wolfers Justin & Zitzewitz Eric, 2004. "Experimental Political Betting Markets and the 2004 Election," The Economists' Voice, De Gruyter, vol. 1(2), pages 1-8, October.
    14. Justin Wolfers & Eric Zitzewitz, 2006. "Interpreting prediction market prices as probabilities," Working Paper Series 2006-11, Federal Reserve Bank of San Francisco.
    15. Robert W. Hahn & Paul Tetlock, 2006. "Information Markets: A New Way of Making Decisions," Books, American Enterprise Institute, number 51409, September.
    16. Grossman, Sanford J & Stiglitz, Joseph E, 1976. "Information and Competitive Price Systems," American Economic Review, American Economic Association, vol. 66(2), pages 246-253, May.
    17. Justin Wolfers & Eric Zitzewitz, 2004. "Prediction Markets," Journal of Economic Perspectives, American Economic Association, vol. 18(2), pages 107-126, Spring.
    18. Robin Hanson, 2006. "Designing real terrorism futures," Public Choice, Springer, vol. 128(1), pages 257-274, July.
    19. repec:reg:rpubli:82 is not listed on IDEAS
    20. Milgrom, Paul & Stokey, Nancy, 1982. "Information, trade and common knowledge," Journal of Economic Theory, Elsevier, vol. 26(1), pages 17-27, February.
    21. Slemrod, Joel & Greimel, Timothy, 1999. "Did Steve Forbes scare the US municipal bond market?," Journal of Public Economics, Elsevier, vol. 74(1), pages 81-96, October.
    22. Robin Hanson, 2003. "Combinatorial Information Market Design," Information Systems Frontiers, Springer, vol. 5(1), pages 107-119, January.
    23. Joyce E. Berg & Thomas A. Rietz, 2003. "Prediction Markets as Decision Support Systems," Information Systems Frontiers, Springer, vol. 5(1), pages 79-93, January.
    24. repec:reg:rpubli:430 is not listed on IDEAS
    25. Justin Wolfers & Eric Zitzewitz, 2009. "Using Markets to Inform Policy: The Case of the Iraq War," Economica, London School of Economics and Political Science, vol. 76(302), pages 225-250, April.
    26. Paul W. Rhode & Koleman S. Strumpf, 2004. "Historical Presidential Betting Markets," Journal of Economic Perspectives, American Economic Association, vol. 18(2), pages 127-141, Spring.
    27. Colin Camerer, 1998. "Can asset markets be manipulated? A field experiment with racetrack betting," Natural Field Experiments 00222, The Field Experiments Website.
    Full references (including those not matched with items on IDEAS)

    Citations

    Blog mentions

    As found by EconAcademics.org, the blog aggregator for Economics research:
    1. Why did Reddit get the wrong guy? (Or: the Wisdom of Crowds vs. the Madness of Mobs)
      by Noah Smith in Noahpinion on 2013-04-22 01:28:00

    Citations

    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
    as


    Cited by:

    1. S. Z. Stefanov, 2010. "Daily Artificial Dispatcher – The Other Head," New Mathematics and Natural Computation (NMNC), World Scientific Publishing Co. Pte. Ltd., vol. 6(03), pages 275-283.
    2. John J. Nay & Martin Van der Linden & Jonathan M. Gilligan, 2016. "Betting and Belief: Prediction Markets and Attribution of Climate Change," Papers 1603.08961, arXiv.org, revised Jul 2016.
    3. Coulomb, Renaud & Sangnier, Marc, 2014. "The impact of political majorities on firm value: Do electoral promises or friendship connections matter?," Journal of Public Economics, Elsevier, vol. 115(C), pages 158-170.
    4. Nina Badulina & Dmitry Shatilovich & Mikhail Zhitlukhin, 2024. "On convergence of forecasts in prediction markets," Papers 2402.16345, arXiv.org.
    5. Restocchi, Valerio & McGroarty, Frank & Gerding, Enrico, 2019. "Statistical properties of volume and calendar effects in prediction markets," Physica A: Statistical Mechanics and its Applications, Elsevier, vol. 523(C), pages 1150-1160.
    6. Pankaj Pandey & Einar Snekkenes, 2016. "Using Financial Instruments to Transfer the Information Security Risks," Future Internet, MDPI, vol. 8(2), pages 1-62, May.
    7. Raja, Aitazaz Ali & Pinson, Pierre & Kazempour, Jalal & Grammatico, Sergio, 2024. "A market for trading forecasts: A wagering mechanism," International Journal of Forecasting, Elsevier, vol. 40(1), pages 142-159.
    8. Legge, Stefan & Schmid, Lukas, 2016. "Media attention and betting markets," European Economic Review, Elsevier, vol. 87(C), pages 304-333.
    9. C.J.M. Kool & S. Rosenkranz & M. Middeldorp, 2007. "Listening Without Understanding: Central Bank Transparency, Financial Markets and the Crowding Out of Private Information," Working Papers 07-19, Utrecht School of Economics.
    10. Coulomb, Renaud & Sangnier, Marc, 2014. "The impact of political majorities on firm value: Do electoral promises or friendship connections matter?," Journal of Public Economics, Elsevier, vol. 115(C), pages 158-170.
    11. Enke, Benjamin & Schwerter, Frederik & Zimmermann, Florian, 2024. "Associative memory, beliefs and market interactions," Journal of Financial Economics, Elsevier, vol. 157(C).
    12. Mary Lee Kennedy & Malgorzata (Gosia) Stergios, 2009. "How to Tie Everyday Work to Strategy," Journal of Information & Knowledge Management (JIKM), World Scientific Publishing Co. Pte. Ltd., vol. 8(04), pages 287-300.
    13. Wiesen, Taylor, 2023. "Aggregate earnings and market expectations in United States presidential election prediction markets," Advances in accounting, Elsevier, vol. 60(C).
    14. Caprini, Giulia, 2023. "Does candidates’ media exposure affect vote shares? Evidence from Pope breaking news," Journal of Public Economics, Elsevier, vol. 220(C).
    15. Davis, Brent, 2015. "Forecasting Elections: Do Prediction Markets Tells Us Anything More than the Polls?," MPRA Paper 65505, University Library of Munich, Germany.
    16. Restocchi, Valerio & McGroarty, Frank & Gerding, Enrico, 2019. "The temporal evolution of mispricing in prediction markets," Finance Research Letters, Elsevier, vol. 29(C), pages 303-307.
    17. Victor Tiberius & Christoph Rasche, 2011. "Prognosemärkte," Metrika: International Journal for Theoretical and Applied Statistics, Springer, vol. 21(4), pages 467-472, April.

    Most related items

    These are the items that most often cite the same works as this one and are cited by the same works as this one.
    1. Snowberg, Erik & Wolfers, Justin & Zitzewitz, Eric, 2013. "Prediction Markets for Economic Forecasting," Handbook of Economic Forecasting, in: G. Elliott & C. Granger & A. Timmermann (ed.), Handbook of Economic Forecasting, edition 1, volume 2, chapter 0, pages 657-687, Elsevier.
    2. Erik Snowberg & Justin Wolfers & Eric Zitzewitz, 2011. "How Prediction Markets can Save Event Studies," CAMA Working Papers 2011-07, Centre for Applied Macroeconomic Analysis, Crawford School of Public Policy, The Australian National University.
    3. Paul J. Healy & Sera Linardi & J. Richard Lowery & John O. Ledyard, 2010. "Prediction Markets: Alternative Mechanisms for Complex Environments with Few Traders," Management Science, INFORMS, vol. 56(11), pages 1977-1996, November.
    4. Coulomb, Renaud & Sangnier, Marc, 2014. "The impact of political majorities on firm value: Do electoral promises or friendship connections matter?," Journal of Public Economics, Elsevier, vol. 115(C), pages 158-170.
    5. Edoardo Gaffeo, 2013. "Using information markets in grantmaking. An assessment of the issues involved and an application to Italian banking foundations," DEM Discussion Papers 2013/08, Department of Economics and Management.
    6. Coulomb, Renaud & Sangnier, Marc, 2014. "The impact of political majorities on firm value: Do electoral promises or friendship connections matter?," Journal of Public Economics, Elsevier, vol. 115(C), pages 158-170.
    7. Justin Wolfers & Eric Zitzewitz, 2006. "Five Open Questions About Prediction Markets," NBER Working Papers 12060, National Bureau of Economic Research, Inc.
    8. Justin Wolfers & Eric Zitzewitz, 2004. "Prediction Markets," Journal of Economic Perspectives, American Economic Association, vol. 18(2), pages 107-126, Spring.
    9. Dorina Tila & David Porter, 2008. "Group Prediction in Information Markets With and Without Trading Information and Price Manipulation Incentives," Working Papers 08-06, Chapman University, Economic Science Institute.
    10. Galanis, S. & Ioannou, C. & Kotronis, S., 2019. "Information Aggregation Under Ambiguity: Theory and Experimental Evidence," Working Papers 20/05, Department of Economics, City University London.
    11. Fabio Milani, 2010. "Public option and private profits," Applied Health Economics and Health Policy, Springer, vol. 8(3), pages 155-165, May.
    12. Bo Cowgill & Eric Zitzewitz, 2015. "Corporate Prediction Markets: Evidence from Google, Ford, and Firm X," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 82(4), pages 1309-1341.
    13. RYan Oprea & David Porter & Chris Hibbert & Robin Hanson & Dorina Tila, 2008. "Can Manipulators Mislead Prediction Market Observers?," Working Papers 08-01, Chapman University, Economic Science Institute.
    14. Knight*, Brian, 2007. "Are policy platforms capitalized into equity prices? Evidence from the Bush/Gore 2000 Presidential Election," Journal of Public Economics, Elsevier, vol. 91(1-2), pages 389-409, February.
    15. Sung, Ming-Chien & McDonald, David C.J. & Johnson, Johnnie E.V. & Tai, Chung-Ching & Cheah, Eng-Tuck, 2019. "Improving prediction market forecasts by detecting and correcting possible over-reaction to price movements," European Journal of Operational Research, Elsevier, vol. 272(1), pages 389-405.
    16. Johan Almenberg & Ken Kittlitz & Thomas Pfeiffer, 2009. "An Experiment on Prediction Markets in Science," PLOS ONE, Public Library of Science, vol. 4(12), pages 1-7, December.
    17. Mikuláš Gangur & Miroslav Plevný, 2014. "Tools for Consumer Rights Protection in the Prediction of Electronic Virtual Market and Technological Changes," The AMFITEATRU ECONOMIC journal, Academy of Economic Studies - Bucharest, Romania, vol. 16(36), pages 578-578, May.
    18. Bergemann, Dirk & Ottaviani, Marco, 2021. "Information Markets and Nonmarkets," CEPR Discussion Papers 16459, C.E.P.R. Discussion Papers.
    19. Pavel Atanasov & Phillip Rescober & Eric Stone & Samuel A. Swift & Emile Servan-Schreiber & Philip Tetlock & Lyle Ungar & Barbara Mellers, 2017. "Distilling the Wisdom of Crowds: Prediction Markets vs. Prediction Polls," Management Science, INFORMS, vol. 63(3), pages 691-706, March.
    20. Peter Cramton & Luciano I. de Castro, 2009. "Prediction Markets to Forecast Electricity Demand," Discussion Papers 1527, Northwestern University, Center for Mathematical Studies in Economics and Management Science.

    More about this item

    JEL classification:

    • C53 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Forecasting and Prediction Models; Simulation Methods

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:ecl:stabus:1927. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a bibliographic reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: the person in charge (email available below). General contact details of provider: https://edirc.repec.org/data/gsstaus.html .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.