Decision Markets for Policy Advice

Abstract

The main cause of bad policy decisions is arguably a lack of information. Decisionmakers often do not make use of relevant information about the consequences of the policies they choose. The problem, however, is not simply that public officials do not exploit readily available information. It is also that they do not take full advantage of creative mechanisms that could expand the supply of policy-relevant information. Among the most innovative and potentially useful information-generating mechanisms are speculative markets. Speculative markets produce public information about the perceived likelihood of future events as a natural byproduct of voluntary exchange. Speculative markets do a remarkable job of aggregating information; in every head-to-head field comparison made so far, their forecasts have been at least as accurate as those of competing institutions, such as official government estimates. Many organizations are now trying to take advantage of this effect, experimenting with the creation of "prediction markets" or "information markets," to forecast future events such as product sales and project completion dates. This chapter examines the uses and limitations of decision markets. Decision markets are information markets designed to inform a particular policy decision, by directly estimating relevant consequences of that decision. After reviewing the weaknesses of existing institutions, the mechanics of decision markets, and a concrete example, this chapter reviews the requirements, advantages, and disadvantages of decision markets. The chapter also takes a close look at a particular application of this tool: the controversial yet illuminating attempt to establish a "Policy Analysis Market" to forecast the consequences of major policy U.S. choices in the Middle East.