Prediction Markets and Climate Change Policy

Blog, Climate, Ben Eisen

The popular website Intrade offers “prediction markets,” that allow individuals to make bets on a range of real world events. The most popular markets surround questions about the trajectory of stock exchanges and the results of elections in the United States. These markets are set up in such a way that it is easy for bettors and non-bettors alike to be able to know, at a glance, what large numbers of people who actually have skin in the game believe to be the likelihood of particular events occurring. For example, the Intrade market suggests that there is, as of today, a 66 % chance that Barack Obama will be re-elected President of the United States. There is no possible way to determine the actual likelihood of this event occurring. However, given the large number of people involved in the market and the fact that they all have money riding on the outcome, it is probably the case that the Intrade market’s prediction should be given more weight than any individual expert’s opinion on the likelihood that President Obama will win in November. While prediction markets obviously can’t tell us what is going to happen, they are valuable tools that can improve our knowledge about the likelihood that certain events will occur.

Prediction markets may also be able to help policymakers make better decisions. One policy area where they may prove especially useful is environmental policymaking in response to climate change. Given the complexity of the scientific questions that lie at the hart of the policy questions surrounding climate change, and the fact that these questions have become politicized, new sources of objective information about the likelihood of accelerating global warming in the years ahead would be extremely valuable. For example, these markets could help policymakers assess the wisdom of investing in the development of adaptation strategies. Prediction markets can’t directly tell us about the causes of recent warming trends, but the extent to which they predict (or don’t) accelerating/dangerous warming in the years ahead may provide useful clues about the wisdom of attaching prices to carbon and other strategies to reduce greenhouse gas emissions.

Intrade already offers a few markets surrounding arctic sea ice extent, but there are few participants in these markets and they exist over too short of a time horizon to be useful in helping us predict the future of climate change.  It may be that governments need to actually create and subsidize markets of this nature in order to create a large enough trading volume to make them useful. The necessary public investments, however, would likely be quite small and may well pay for themselves many times over if they help us make better policy choices.

The most obvious obstacle to the creation of useful markets in this policy area (and others) is the prospect of market manipulation by financially and politically interested parties.  This problem could be mitigated if the markets became large enough that it became prohibitively expensive to manipulate them.

A thoughtful blog post on the subject, which was posted immediately following the “climategate” news story broke, from one of the leading proponents of prediction markets as a policy analysis tool is available here. Much more on the subject, with additional links, can be found here.