Tag Archives: collective wisdom

Prediction markets = A tool for quantifying the conventional wisdom

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No GravatarEric Zitzewitz responded to Paul Krugman:

Almost all of the serious people who study or work with these markets are not in the “markets are magic” camp.

My work in this area (with Justin Wolfers usually and Andrew Leigh and Erik Snowberg occassionally) uses these markets as a way of quantifying the conventional wisdom.

This has more value than may be immediately apparent. It can help you get from “the market rose 0.25% in response to Obama’s Iowa victory” to “the market rose 0.25% in response to Obama’s Iowa victory, which raised his nomination probability by 20% and did not affect the Democrats odds of winning in November” to an estimate of how much more stocks will be worth under Obama than Edwards or Clinton.

In corporate settings, a market can help turn something that “everyone knows” into an objective fact that can then be acted upon. The best example is probably markets on whether software projects will be completed on time– if a market run among the project team members says that the launch will be 2 months late, it becomes harder for the project manager to insist that everything is on track.

Eric Zitzewitz
Assoc. Prof. of Econ
Dartmouth College

Thanks to Jason Ruspini for the link. Jason also posted a comment on Paul Krugman&#8217-s post, and also on Felix Salmon&#8217-s post.

Previous blog posts by Chris F. Masse:

  • NUCLEAR SCANDAL: HubDub allow their traders to bet on celebrities’ death.
  • APRIL FOOL’S DAY: This year, again, CNET makes fun of the wisdom of crowds.
  • Play-money prediction exchange HubDub is a phenomenal success.
  • BetFair Australia’s spin doctor tells all about their payments to the horse race industry.
  • Meet Jeffrey Ma (at right on the photo), the ProTrade co-founder, and whose gambling life is the basis of the upcoming movie, 21.

THE SILICON ALLEY BLOG COMES TO THE RESCUE OF THE PREDICTION MARKETS.

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Silicon Alley&#8217-s Jonathan Kennedy:

[…] In denouncing prediction markets as &#8220-wrong,&#8221- however, many pundits miss the point. Prediction markets do not provide accurate predictions of the future. (How could they? They simply represent the consensus guess of a group of people who aren&#8217-t prophets). They merely provide the most-informed guess as to what that future is likely to be.

As numerous &#8220-collective wisdom&#8221- studies have shown, the consensus guess is always better than the majority of the individual guesses that are factored into it (not sometimes&#8211-always). The collective wisdom, moreover, is often more accurate than that of ANY individual. Why? Because the market collectively incorporates far more information than is available to any one individual.

Like the stock market, prediction markets don&#8217-t get it right every time. They do, however, provide a useful window into the collective expectations of others&#8211-one that is often the best available estimate of the future. And they do sometimes get it right. Just as they did with Mr. McCain.

Bravo, mister Jonathan Kennedy.

&#8212-

Take that, Barry Ritholtz. :-D

In an upcoming post, we will review the strengths and weaknesses of these thinly traded prediction markets&#8230-

We are holding our breath, Barry. Hurry up.