[Michael Abramowicz, guest-blogging, February 2, 2008 at 9:05am] Trackbacks
Predictocracy vs. Futarchy:

In describing normative markets in my book, I outline the possibility of prediction market-based legislative, judicial, and even executive power, but only for heuristic value. Nonetheless, it is fun to indulge in political science fiction and imagine a government run by prediction markets. I hope that this exercise can convince people that prediction markets are a powerful and flexible tool that may be useful in more modest but still exciting ways.

A predictocracy, then, is a government in which normative markets make the full range of government decisions, except when the prediction market mechanism results in a decision to delegate a decision to some other mechanism (whether traditional or using prediction markets in some other way).

I am not the first to imagine prediction markets serving at the center of government. Robin Hanson has previously defended a form of government that he calls "futarchy." His vision is that the legislature would be limited to defining some objective function (a GDP+ that includes GDP, but also anything else of value). Only policies that conditional markets predict would increase GDP+ would be enacted.

The slight disagreement between Hanson and me may sound to skeptics and even many prediction market enthusiasts like an argument between religious fanatics who have already disengaged from reality. But in Predictocracy, I explain why I prefer predictocracy to futarchy, and Hanson has now respectfully joined the argument.

My principal reasons for preferring predictocracy stem from the caveats that I previously offered about conditional markets. I worry that there will be too much noise in estimating GDP+ to make reliance on the difference between two conditional markets reliable (except for monumentally large decisions), and also that any prediction market subsidies in futarchy won't be well targeted.

Hanson points out that futarchy could authorize predictocracy-like decision making for particular decisions, and vice versa, and so he argues that we should pick the system that would make better decisions on the largest issues. But I worry that the caveats about conditional markets suggest that futarchy might not be the best vehicle for determining whether predictocracy should be used for particular realms of decision making. It would work only if large enough realms were being carved out to make a meaningful impact on GDP+.

Hanson makes some strong points in favor of futarchy. "Democracy today suffers from enormous errors regarding estimates of policy consequences, i.e., of passing particular bills," he points out. Predictocracy reduces the effects of the errors, since evaluations can be made years after a policy is enacted, but ex post evaluators in predictocracy might make some systematic errors that prediction market traders in futarchy would fix.

Futarchy, however, introduces another type of error, the danger that the legislature will not do a good job of defining GDP+, as Hanson acknowledges. It's not a priori clear which would be worse -- errors by the legislature in developing a formula for GDP+, or errors by ex post evaluators in determining whether a particular policy has increased or decreased general welfare. It probably depends to some extent on the quality of our legislature and the quality of our average ex post judges.

Ultimately, the question reduces to this: Suppose all you knew about a policy was that (a) one prediction market forecast that it would increase a measure of GDP+ devised by the legislature; and (b) another prediction market forecast that people some years later would conclude that this policy was a bad idea.

I would tentatively suppose that the participants in market (b) recognized some limitation of GDP+ that would be apparent after enactment of the policy. Robin would guess that the participants in market (b) anticipated that the ex post evaluators would fail to identify some actual policy consequence of the policy.

Given my views on this question, and the challenges of using futarchy for relatively small decisions, I would prefer predictocracy. Most readers who have followed the argument so far probably prefer traditional forms of republican government -- and I do too, because of transition problems and uncertaintty.

Ultimately, I believe that both markets forecasting particular consequences of potential government decisions and normative markets forecasting ex post assessments of policies could be useful tools within traditional republican governance.