Big test for Taiwan prediction
market By Jonathan Adams
TAIPEI - When the first "prediction
market" for a Taiwan election was set up in 2000,
the result was disappointing. The market correctly
called the election result, but by other measures
it was a dud.
"There were only three or
four guys who were really doing the trading, and
they had really strong biases - one guy favored
one party, one was in favor of the other," said
Forrest Nelson, a co-founder of the Iowa
Electronics Markets, which helped run the Taiwan
market. "The fact that it worked at all was a
major surprise."
Eight years on, such
markets have boomed in popularity. Once the
preserve of a few oddball US enthusiasts, they've
gone mainstream - and global. They're now used as
high-tech crystal
balls to
help predict everything from soccer scores in
Europe to the severity of the flu season in Iowa
to the likelihood of Pakistan's President Pervez
Musharraf stepping down this month. Such
markets' growing global appeal is evident in
Taiwan, which boasts a new, online
Chinese-language prediction market (at
nccu.swarchy.org). In contrast to the lonely
market Nelson observed, some 2,000 politics fans
from Taiwan, mainland China, Hong Kong and
elsewhere have already crowded into the new market
to trade contracts on who will win the closely
watched March 22 presidential vote in Taiwan.
Whether it guesses correctly will be one of the
market's first big trials.
The election
will also test two still-debated points: Do "funny
money" markets such as Taiwan's perform as well as
ones using real money, and how susceptible are
such markets to trader bias?
Taiwan's
Center for Prediction Markets, set up in mid-2006,
is one of a small but growing crop of Asia-based
markets. In Japan, the first political prediction
market was set up in 2005; the market Shuugi.in
now has some 500 registered traders predicting the
coming Lower House election. Taiwan also boasts
the smaller Taiwan Political
Exchange , which
correctly called the island's hotly contested 2004
presidential vote.
Like those other
prediction markets, The Center for Prediction
Markets' works on the model of a futures market,
aggregating collective sentiment into one market
"price". Except instead of guessing, say, the
price of corn three months from now, participants
guess the likelihood of a specific outcome (such
as a certain candidate winning). Traders start
with 100,000 virtual points, which they use to buy
and sell contracts. The better their predictions,
the more points they rack up.
In the US,
such markets have often outperformed public polls,
experts say. But they're still struggling to
explain exactly why. One reason is that such
markets ask people who they think will win rather
than who should win. Another often-cited point is
financial incentive. Traders have to put their
money where their mouth is, which gives them a
stake in making good predictions.
But
Taiwan's new market, like most in the US, can't
use real money because of anti-gambling laws. That
should put it at a disadvantage, right?
Not necessarily. Experts say the jury is
still out on whether real money prediction markets
outperform "funny money" ones. A 2004 study
comparing real and virtual money markets for the
US National Football League season found little
difference in their predictive powers (both
markets' predictions were better than the vast
majority of individual predictions).
"People in play money markets act
surprisingly similar to people in real money
markets because they get some kind of psychic
reward for doing well," said Justin Wolfers, a
professor at the Wharton School and one of the
study's co-authors. Turns out bragging rights can
be as strong a motivator as cold cash.
Skeptics have another criticism of
Taiwan's market. Its traders include many from
mainland China and Hong Kong, who are likely to
have a strong bias against Taiwan's
pro-independence party. Won't that skew the
results in favor of its rival, the China-friendly
Kuomintang (KMT)?
Nope again. Traders with
extreme and opposing biases can be expected to
cancel each other out, experts say, as happened in
the 2000 Taiwan prediction market. And traders who
are in the game to win (instead of to prove a
point or back a party) will rush in to any market
thought to be out of whack, whether by
manipulation or home-team bias.
"When
traders suspect that such manipulation might
exist, they will bet on the other side," said
Robin Hanson, an expert on prediction markets at
George Mason University. "The net effect is that
the existence of people who might want to
manipulate [the market] usually increases the
accuracy of market prices."
Still, no one
claims prediction markets get it right every time
- they don't. The point, according to what
academics call a persuasive body of evidence, is
that such markets generally do a better job than
predictions by any individual experts or forecasts
from public polls.
Outperforming Taiwan's
polls shouldn't be hard. They're notoriously bad
as a forecast of election outcomes. In late 2006,
for example, many media polls underrated the
pro-independence party's support - a recurring
problem. Taiwan's prediction markets did a much
better job of estimating vote shares (the island's
two markets both called the Kaohsiung mayoral
election wrong, but that contest was a statistical
dead heat). "Most opinion polls usually have 20 to
30% 'no answer'," said Lin Jih-wen, director of
the Center for Prediction Markets. "We don't have
missing data or a sampling bias, that's our
strength."
The market has now picked the
strong likelihood of victory by the China-friendly
candidate Ma Ying-jeou. Time will tell if it's got
the right guy. But even if it doesn't, the
markets' enthusiastic reception shows how Asia -
like the US and Europe - has embraced such markets
as a powerful fortune-telling tool.
Jonathan Adams
is a Taipei-based freelance writer.
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