Editorial Summary: Willingness to pay and willingness to accept are probably less correlated than you think.

Abstract: A vast literature documents that willingness to pay (WTP) is less than willingness to accept (WTA) a monetary amount for an object, a phenomenon called the endowment effect. Using data from three incentivized studies with a total representative sample of 4,000 U.S. adults, we add one additional finding: WTA and WTP for a lottery are (essentially) uncorrelated. In contrast, independent measures of WTA (or WTP) are highly correlated, and relatively stable across time. Leading models of reference-dependent preferences are compatible with a zero correlation between WTA and WTP, but only for specific parameterizations and ruling out popular special cases. These models also predict a relationship between the endowment effect and loss aversion, which we do not find.

Earlier versions appeared under the title Willingness to Pay and Willingness to Accept are Probably Less Correlated than you Think

Download: Working paper (May, 2021–under review) - NBER Working Paper #23954 - CESifo Working Paper No. 6492 - Bibtex

Editorial Summary: Better measurement of loss attitudes shows that most people are loss tolerant.

Abstract: We introduce DOSE—Dynamically Optimized Sequential Experimentation—and use it to estimate individual-level loss aversion in a representative sample of the U.S. population (N=2,000). DOSE elicitations are more accurate, more stable across time, and faster to administer than standard methods. We find that around 50% of the U.S. population is loss tolerant. This is counter to earlier findings, which mostly come from lab/student samples, that a strong majority of participants are loss averse. Loss attitudes are correlated with cognitive ability: loss aversion is more prevalent in people with high cognitive ability, and loss tolerance is more common in those with low cognitive ability. We also use DOSE to document facts about risk and time preferences, indicating a high potential for DOSE in future research.

Download: Working paper (May, 2019) - NBER Working Paper #25072 - Bibtex

Editorial Summary: Prices that vary over time can reduce uncertainties inherent in value-based pricing, making drugs more affordable.

Abstract: Recent political events have thrust the bulk negotiation of drug prices by Medicare and Medicaid back into the spotlight. Yet, even if politically feasible, there is no clear framework for negotiating prices of new drugs with uncertain target populations—for example, due to imprecise estimates or off-label use—or uncertain clinical effects—for example, due to heterogeneous patient response. We create such a framework using two-price programs developed in the economics of procurement literature. This framework delivers new payment strategies, and unifying them with theoretical advances in pharmaceutical reimbursement like capitation and value-based pricing. Two-price programs substantially reduce uncertainty for both payers and pharmaceutical companies, while still creating financial incentives for those companies that innovate and create value for patients.

Download: Working paper (November, 2017) - CESifo Working Paper No. 6848

Editorial Summary: Prediction markets show that the length of the primary season does not affect either parties' eventual probability of victory.

Abstract: To explore the influence of primary and caucus results during the 2008 nomination process we leverage a previously unused methodology—the analysis of prediction market contracts. The unique structure of prediction markets allows us to address two questions. First, we analyze whether primary and caucus results affect candidates' chances in the general election, as candidates who take extreme positions during the nomination contest may be unable to easily appeal to centrist voters in the general election. We also assess whether states with early primaries, such as Iowa and New Hampshire, have a disproportionate effect on the nominating process. We show that the length of the primary process has a minimal impact of the electability of candidates in the general election, and that some states have a disproportionate impact on the nominating process. However, the states that have the largest impact are not necessarily New Hampshire and Iowa, the two that have often been assumed to be the most influential because of their early position on the primary calendar.

Download: Shirking paper (2009?) - Bibtex

Editorial Summary: Although a party can get any legislation passed by threatening its legislators, it will chose to reward them instead if the party cares about staying in power.

Abstract: This paper proposes a dual-utility theory of parties in a legislature. In this theory a legislator has preferences over both actions and policy outcomes. Specifically, a legislator's utility is determined by position taking—his own votes—and by partisan utility which depends on policy implemented by the legislature. Party leaders design mechanisms that make legislators better off by co-ordinating votes and compensating those legislators that vote against the interests of their constituents. The model produces two main findings. First, party leaders are more likely to use promises of rewards and threats of punishment as the size of the party or the benefit of passing the party's policy platform increases. Secondly, and perhaps counter-intuitively, party leaders become less likely to use rewards and punishments when the number of centrist legislators increases, or the costs to centrist legislators increase.

Download: Shirking paper (May, 2008) - Bibtex

Editorial Summary: An empirical basis for theories of the underlying structure of behavioral decision-making.

Abstract: We study the pattern of correlations across a large number of behavioral regularities, with the goal of creating an empirical basis for more comprehensive theories of decision-making. We elicit 21 behaviors using an incentivized survey on a representative sample (N=1,000) of the U.S. population. Our data show a clear and relatively simple structure underlying the correlations between these measures. Using principal components analysis, we reduce the 21 variables to six components corresponding to clear clusters of high correlations. We examine the relationship between these components, cognitive ability, and demographics. Common extant theories are not compatible with all the patterns in our data.

Download: Final Working Paper (May, 2022) - NBER Working Paper #24931 - CESifo Working Paper No. 7202 - Bibtex

Editorial Summary: Lab experiments have some desireable properties for external validity.

Abstract: We leverage a large-scale incentivized survey eliciting behaviors from (almost) an entire university student population, a representative sample of the U.S. population, and Amazon Mechanical Turk (MTurk) to address concerns about the external validity of experiments with student participants. Behavior in the student population offers bounds on behaviors in other populations, and correlations between behaviors are largely similar across samples. Furthermore, non-student samples exhibit higher measurement error. Adding historical lab participation data, we find a small set of attributes over which lab participants differ from non-lab participants. Using an additional set of lab experiments, we see no evidence of observer effects.

Download: Final Working paper (July, 2018) - NBER Working Paper #24781 - CEPR Discussion Paper #13015 - CESifo Working Paper No. 7136 - Bibtex

Editorial Summary: Journals can sponsor replications of the work they publish.

Abstract: Recent large-scale replications of social science experiments provide important information on the reliability of experimental research. Unfortunately, there exist no mechanisms to ensure replications are done. We propose such a mechanism: journal-based replication, in which the publishing journal contracts for a replication between acceptance and publication. We discuss what we learned from a proof-of-concept journal-based replication at the Journal of Public Economics. Our experience indicates that journal-based replication would be relatively straightforward to implement for laboratory experiments.

Download: Final Working paper (May, 2021) - Bibtex

Editorial Summary: Theory needs to understand experimenters in order to be relevant to them.

Abstract: This paper studies the problem of experiment design by an ambiguity-averse decision-maker who trades off subjective expected performance against robust performance guarantees. This framework accounts for real-world experimenters' preference for randomization. It also clarifies the circumstances in which randomization is optimal: when the available sample size is large and robustness is an important concern. We apply our model to shed light on the practice of rerandomization, used to improve balance across treatment and control groups. We show that rerandomization creates a tradeoff between subjective performance and robust performance guarantees. However, robust performance guarantees diminish very slowly with the number of rerandomizations. This suggests that moderate levels of rerandomization usefully expand the set of acceptable compromises between subjective performance and robustness. Targeting a fixed quantile of balance is safer than targeting an absolute balance objective.

Download: Published Paper - Final Working paper (October, 2019) - NBER Working Paper #23867 - CESifo Working Paper No. 6687 - Bibtex

Editorial Summary: Measurement error is a substantial, but easy to handle, concern in experiments. The failure to do so leads to the over-identification of "new" traits.

Abstract: Measurement error is ubiquitous in experimental work. It leads to imperfect statistical controls, attenuated estimated effects of elicited behaviors, and biased correlations between characteristics. We develop statistical techniques for handling experimental measurement error. These techniques are applied to data from the Caltech Cohort Study, which conducts repeated incentivized surveys of the Caltech student body. We replicate three classic experiments, demonstrating that results change substantially when measurement error is accounted for. Collectively, these results show that failing to properly account for measurement error may cause a field-wide bias leading scholars to identify "new" phenomena that are similar to those previously documented.

Download: Published Paper - Final Working Paper (January, 2018) - NBER Working Paper #21517 - Bibtex

Editorial Summary: A focus on local represenation has a tendency to make political outcomes less representative.

Abstract: We develop a theory of taxation and the distribution of government spending in a citizen-candidate model of legislatures. Individuals are heterogeneous in two dimensions: productive ability in the private sector and negotiating ability in politics. When these are positively correlated, rich voters always prefer a rich legislator, but poor voters face a trade-off. A rich legislator will secure more pork for the district, but will also prefer lower taxation than the poor voter. Our theory organizes a number of stylized facts across countries about taxation and redistribution, parties, and class representation in legislatures. We demonstrate that spending does not necessarily increase when the number of legislators increases, as the standard common-pool intuition suggests, and that many policies aimed at increasing descriptive representation may have the opposite effect.

Download: Published Paper - Final Working Paper (January, 2018) - NBER Working Paper #24279 - Bibtex

Editorial Summary: Prices that vary over time can reduce uncertainties inherent in value-based pricing, making drugs more affordable.

Download: Published Paper - Bibtex

Editorial Summary: Data about a person's actual economic experiences challanges prevailing views of the mechanisms underlying economic voting.

Abstract: To paint a fuller picture of economic voters, we combine personal income records with a representative election survey. We examine three central topics in the economic voting literature: pocketbook versus sociotropic voting, the effects of partisanship on economic evaluations, and voter myopia. First, we show that voters who appear in survey data to be voting based on the national economy are, in fact, voting equally on the basis of their personal financial conditions. Second, there is strong evidence of both partisan bias and economic information in economic evaluations, but personal economic data is required to separate the two. Third, although in experiments and aggregate historical data recent economic conditions appear to drive vote choice, we find no evidence of myopia when we examine actual personal economic data.

Download: Published Paper - Final Working Paper (June, 2017) - CESifo Working Paper No. 6171 - Bibtex

Editorial Summary: A small number of pilots can yield near optimal performance in clinical trials.

Abstract: Motivated by practical applications, chiefly clinical trials, we study the regret achievable for stochastic bandits under the constraint that the employed policy must split trials into a small number of batches. We propose a simple policy that operates under this constraint and show that a very small number of batches gives close to minimax optimal regret bounds. As a byproduct, we derive optimal policies with low switching cost for stochastic bandits.

Accepted at COLT 2015.

Download: Published Paper - Final Working Paper (May, 2015) - arXiv - Bibtex

(Previous title: Confidence and Overconfidence in Political Economy)

Editorial Summary: Overconfidence is the most important predictor of ideological extremeness, and an important predictor of voter turnout.

Abstract: This paper studies, theoretically and empirically, the role of overconfidence in political behavior. Our model of overconfidence in beliefs predicts that overconfidence leads to ideological extremeness, increased voter turnout, and stronger partisan identification. The model also makes nuanced predictions about the patterns of ideology in society. These predictions are tested using unique data that measure the overconfidence and standard political characteristics of a nationwide sample of over 3,000 adults. Our numerous predictions find strong support in these data. In particular, we document that overconfidence is a substantively and statistically important predictor of ideological extremeness, voter turnout, and partisan identification.

Download: Published Paper - Final Working Paper (July, 2014) - NBER Working Paper #19250 - Bibtex

Editorial Summary: We show that standard blind trials can fail to account for the full value added when there are interactions between a treatment and behavior. We propose a new clinical trial design, two-by-two blind trials, to better account for efficacy when interaction effects may be important.

Abstract: Behavioral or placebo effects depend on patients' beliefs that they are receiving treatment. Here we show statistically that clinical trials with a single probability of treatment are poorly suited to estimate the additional treatment benefits that arise from such interactions. We introduce methods to identify interaction effects, and use those methods in a meta-analysis of data from blinded antidepressant trials in which participant-level data is available. Out of six eligible studies, three were for the selective serotonin re-uptake inhibitor paroxetine, and three for the tricyclic imipramine, and three studies had a high ($>$65\%) probability of treatment. We found strong evidence that treatment probability affects the behavior of trial participants, specifically the decision to drop-out of a trial. In the case of paroxetine, but not imipramine, there was an interaction between treatment and behavioral changes that enhanced the effectiveness of the drug.

Download: Published Paper - Final Working Paper (March, 2015) - Bibtex

Editorial Summary: Although conservatism and overconfidence are strongly correlated today, there are reasons to believe this may not have always been the case.

Abstract: Recent studies suggest psychological differences between conservatives and liberals, including that conservatives are more overconfident. We use a behavioral political economy model to show that while this is undoubtedly true for election years in the current era, there is no reason to believe that conservative ideologies are intrinsically linked to overconfidence. Indeed, it appears that in 1980 and before, conservatives and liberals were equally overconfident.

Download: Published Paper - Final Working Paper (January, 2015) - Bibtex

Editorial Summary: Even if people are only motivated by self-interest, they should, and do, vote based on local economic conditions.

Abstract: We develop an incomplete information theory of economic voting, where voters' information about macro-economic performance is determined by the economic conditions of people similar to themselves. We test our theory using both cross-sectional and time-series survey data. A novel survey instrument that asks respondents their numerical assessment of the unemployment rate confirms that individuals' economic information responds to the economic conditions of people similar to themselves. Furthermore, these assessments are correlated with individuals' vote choices. We also show in time-series data that state unemployment robustly correlates with evaluations of national economic conditions, and presidential support.

Download: Published Paper - Final Working Paper (March, 2014) - Bibtex

Editorial Summary: If you are testing a theory about numbers with a survey, you should ask about numbers. Here's how.

Abstract: Survey questions about economic quantities offer a number of advantages over the qualitative questions generally used to study economic voting. However, concerns about survey respondents' ability to accurately report numbers have limited the use of quantitative questions. This paper shows quantitative questions are feasible and useful for the study of economic voting. First, survey respondents are capable of accurately assessing familiar economic quantities, such as the price of gas. Second, careful question design, in particular proper framing, can reduce measurement error due to respondents not understanding numeric scales when assessing less familiar quantities, such as the unemployment rate. Third, combining quantitative and qualitative questions sheds light on where partisan bias enters economic assessments: in perceiving, judging, or reporting economic quantities. The evidence indicates bias enters the reporting of assessments, and that this bias is smaller in quantitative questions than qualitative questions.

Download: Published Paper - Online Appendix - Final Working Paper (Nov, 2012) - Bibtex

Editorial Summary: Using a mechanism design approach to RCTs creates deeper understanding and more creative designs.

Abstract: We study the design of randomized controlled experiments in environments where outcomes are significantly affected by unobserved effort decisions taken by the subjects (agents). While standard randomized controlled trials (RCTs) are internally consistent, the unobservability of effort provision compromises external validity. We approach trial design as a principal-agent problem and show that natural extensions of RCTs—which we call selective trials—can help improve the external validity of experiments. In particular, selective trials can disentangle the effects of treatment, effort, and the interaction of treatment and effort. Moreover, they can help experimenters identify when measured treatment effects are affected by erroneous beliefs and inappropriate effort provision.

Download: Published Paper - Final Working Paper (July, 2011) - NBER Working Paper #16343 - Bibtex

Editorial Summary: Even strong parties are limited by the need to win elections in their ability to discipline politicians.

Abstract: We develop a model of electoral accountability with primaries. Prior to the general election, the supporters of each of two parties decide which candidates to nominate. We show that supporters suffer from a fundamental tension: while they want politicians who will faithfully implement the party's agenda in office, they need politicians who can win elections. Accountability to supporters fails when supporters fear that by punishing or rewarding their incumbent for her loyalty or lack thereof, they unintendedly increase the electoral prospects of the opposing party. Therefore, accountability decreases with the importance that supporters assign to the elections, and it breaks down in two cases. First, a popular incumbent safely defects as she knows she will be re-nominated. Second, an unpopular incumbent defects because she knows she will be dismissed even if she follows the party line. These behaviors are labeled impunity and damnation respectively, and are illustrated with case studies.

Download: Published Paper - Final Working Paper (April, 2010) - Bibtex

Editorial Summary: Even if campaign funds only convey information about the quality of politicians, voters would be better off with strict regulation of campaign finance.

Abstract: We develop a dynamic multi-dimensional signaling model of campaign finance in which candidates can signal their ability by enacting policy and/or by raising and spending campaign funds, both of which are costly. Our model departs from the existing literature in that candidates do not need to exchange policy influence for campaign contributions, rather, they must decide how to allocate their efforts between policymaking and fundraising. If high-ability candidates are better policymakers and better fundraisers then they will raise and spend campaign funds even if voters care only about legislation. Campaign finance reform alleviates this phenomenon and improves voter welfare at the expense of politicians. Thus, we expect successful politicians to oppose true campaign finance reform. We also show our model is consistent with findings in the empirical and theoretical campaign finance literature.

Download: Published Paper - Final Working Paper (Feb, 2009) - SIEPR Discussion Paper 06-027 - Bibtex

Editorial Summary: Gambling behavior is often rationalized by risk-loving behavior, which limits the external validity of studies of gambling. If, on the other hand, gambling is due to mis-perceptions of probabilities, the results of these studies are more generally useful.

Abstract: The favorite-longshot bias describes the longstanding empirical regularity that betting odds provide biased estimates of the probability of a horse winning—longshots are overbet, while favorites are underbet. Neoclassical explanations of this phenomenon focus on rational gamblers who overbet longshots due to risk-love. The competing behavioral explanations emphasize the role of misperceptions of probabilities. We provide novel empirical tests that can discriminate between these competing theories by assessing whether the models that explain gamblers' choices in one part of their choice set (betting to win) can also rationalize decisions over a wider choice set, including compound bets in the exacta, quinella or trifecta pools. Using a new, large-scale dataset ideally suited to implement these tests we find evidence in favor of the view that misperceptions of probability drive the favorite-longshot bias, as suggested by Prospect Theory.

Download: Published Paper - Final Working Paper (Nov, 2007) - NBER Working Paper #15923 - Bibtex

Editorial Summary: The ability of groups of people to make predictions is a potent research tool that should be freed of unnecessary government restrictions.

Download: Published Paper - Bibtex

Editorial Summary: Parties either have little influence in Congress, or Congress has little impact on the economy.

Abstract: To understand the extent to which partisan majorities in Congress influence economic policy, we compare financial market responses in recent midterm elections to Presidential elections. We use prediction markets that track election outcomes as a means of precisely timing and calibrating the arrival of news, allowing substantially more precise estimates than a traditional event study methodology. We find that equity values, oil prices, and Treasury yields are slightly higher with Republican majorities in Congress, and that a switch in the majority party in a chamber of Congress has an impact that is only 10-30 percent of that of the Presidency. We also find evidence inconsistent with the popular view that divided government is better for equities, finding instead that equity valuations increase monotonically, albeit slightly, with the degree of Republican control.

Download: Published Paper - Final Working Paper (May, 2007) - NBER Working Paper #12751 - Bibtex

Editorial Summary: The effect of politics on markets in the US is quite small.

Abstract: Political economists interested in discerning the effects of election outcomes on the economy have been hampered by the problem that economic outcomes also influence elections. We sidestep these problems by analyzing movements in economic indicators caused by clearly exogenous changes in expectations about the likely winner during election day. Analyzing high frequency financial fluctuations on November 2 and 3 in 2004, we find that markets anticipated higher equity prices, interest rates and oil prices and a stronger dollar under a Bush presidency than under Kerry. A similar Republican-Democrat differential was also observed for the 2000 Bush-Gore contest. Prediction market based analyses of all Presidential elections since 1880 also reveal a similar pattern of partisan impacts, suggesting that electing a Republican President raises equity valuations by 2–3 percent, and that since Reagan, Republican Presidents have tended to raise bond yields.

Download: Published Paper - Final Working Paper (June, 2006) - NBER Working Paper #12073 - Bibtex

Editorial Summary: TV didn't contribute to the rise in the incumbency advantage.

Abstract: We use the structure of media markets within states and across state boundaries to study the relationship between television and electoral competition. In particular, we compare incumbent vote margins in media markets where content originates in the same state as media consumers versus vote margins where content originates out-of-state. This contrast provides a clear test of whether or not television coverage correlates with the incumbency advantage. We study U.S. Senate and state gubernatorial races from the 1950s through the 1990s and find that the effect of TV is small, directionally indeterminate, and statistically insignificant.

Download: Published Paper - Online Appendix - Final Working Paper (Aug, 2005) - Bibtex

Editorial Summary: Media bias makes better read citizens less informed.

Abstract: This paper examines evidence of sampling or statistical bias in newspaper reporting on campaign finance. We compile all stories from the five largest circulation newspapers in the United States that mention a dollar amount for campaign expenditures, contributions, or receipts from 1996 to 2000. We compare these figures to those recorded by the Federal Election Commission (FEC). The average figures reported in newspapers exceed the analogous figures from the FEC by as much as eight fold. Press reports also focus excessively on corporate contributions and soft money, rather than on the more common types of donors—individual—and types of contributions—hard money. We further find that these biases are reflected in public perceptions of money in elections. Survey respondents overstate the amount of money raised and the share from different groups by roughly the amount found in newspapers, and better educated people (those most likely to read newspapers) showed the greatest discrepancy between their beliefs and the facts.

Download: Published Paper - Final Working Paper (Mar, 2005) - Bibtex

Editorial Summary: A deeper theoretical understanding of experimental practice can lead to innovations in design and external validity.

Abstract: A modern, decision-theoretic framework can help clarify important practical questions of experimental design. Building on our recent work, this chapter begins by summarizing our framework for understanding the goals of experimenters, and applying this to re-randomization. We then use this framework to shed light on questions related to experimental registries, pre-analysis plans, and most importantly, external validity. Our framework implies that even when large samples can be collected, external decision-making remains inherently subjective. We embrace this conclusion, and argue that in order to improve external validity, experimental research needs to create a space for structured speculation.

Download: Final Working Paper (April, 2016) - NBER Working Paper #22167 - Bibtex

Editorial Summary: Boone et al. find that existing political economy theories do not predict patterns of spending in the ARRA. Some alternatives are suggested.

Editorial Summary: A review of the substantive contributions made by researchers studying prediction markets.

Abstract: Prediction markets—markets used to forecast future events—have been used to accurately forecast the outcome of political contests, sporting events, and, occasionally, economic outcomes. This chapter summarizes the latest research on prediction markets in order to further their utilization by economic forecasters. We show that prediction markets have a number of attractive features: they quickly incorporate new information, are largely efficient, and impervious to manipulation. Moreover, markets generally exhibit lower statistical errors than professional forecasters and polls. Finally, we show how markets can be used to both uncover the economic model behind forecasts, as well as test existing economic models.

Download: Final Working Paper (June, 2012) - NBER Working Paper #18222 - Bibtex

Editorial Summary: The only way for event studies to reach their potential is to include a prediction market (in most cases).

Abstract: Event studies have been used to address a variety of political questions—from the economic effects of party control of government to the importance of complex rules in congressional committees. However, the results of event studies are notoriously sensitive to both choices made by researchers and external events. Specifically, event studies will generally produce different results depending on three interrelated things: which event window is chosen, the prior probability assigned to an event at the beginning of the event window, and the presence or absence of other events during the event window. In this paper we show how each of these may bias the results of event studies, and how prediction markets can mitigate these biases.

Download: Final Working Paper (July, 2010) - NBER Working Paper #16949 - Bibtex

Editorial Summary: This is just a summary of some questions we put on the 2006 ANES.

Abstract: The literature on economic voting does describe how voters acquire information about the general state of the economy, and how that information is used to form perceptions. In order to begin understanding this process, we asked a series of questions on the 2006 ANES Pilot about respondents' perceptions of the average price of gas and the unemployment rate in their home state. We find that questions about gas prices and unemployment show differences in the sources of information about these two economic variables. Information about unemployment rates come from media sources, and are systematically biased by partisan factors. Information about gas prices, in contrast, comes only from everyday experiences. While information about both indicators show effects from demographics, only unemployment rates affect a respondent's political outlook. Moreover, perceptions of unemployment rates can be used to isolate the effect of economics on partisan preferences.

Download: Final Working Paper (July, 2008) - Bibtex

Editorial Summary: An extensive review of the favorite-longshot literature that divides theories into preferences-based or perception-based explanations.

Abstract: This paper compiles and summarizes the theoretical literature on the favorite-longshot bias, an anomaly has been found in sports betting markets for over half a century. Explanations of this anomaly can be broken down into two broad categories, those involving preferences and those involving perceptions. We propose a novel test of these two classes of model that allows us to discriminate between them without parametric assumptions. We execute these tests on a new dataset, which is an order of magnitude larger than any used in previous studies, and conclude that the perceptions model, in which bettors over-estimate the chances of small probability events, provides a better fit to the data.

Download: Bibtex

Editorial Summary: Details the intellectual history of prediction markets.

Abstract: Prediction markets are the subject of a growing body of scholarly literature, and growing attention from the business community. These recent trends are often discussed without reference to the long history of these markets. Prediction markets started as simple wagers on political contests and have expanded through laboratory and field experiments. We survey this history, detailing the past and current uses of prediction markets. We conclude by examining some potential challenges that will need to be addressed as the uses of prediction markets expand.

Download: Bibtex

Editorial Summary: Describes what makes prediction markets work, and shows, through example, how the absence of certain factors lead to prediction failure.

Abstract: We analyze the extent to which simple markets can be used to aggregate dispersed information into efficient forecasts of unknown future events. From the examination of case studies in a variety of financial settings we enumerate and suggest solutions to various pitfalls of these simple markets. Despite the potential problems, we show that market-generated forecasts are typically fairly accurate in a variety of prediction contexts, and that they outperform most moderately sophisticated benchmarks. We also show how conditional contracts can be used to discover the markets belief about correlations between events, and how with further assumptions these correlations can be used to make decisions.

Download: Bibtex