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Interpreting prediction market prices as probabilities

Author: Justin Wolfers; Eric Zitzewitz; National Bureau of Economic Research.
Publisher: Cambridge, Mass. : National Bureau of Economic Research, 2006.
Series: Working paper series (National Bureau of Economic Research), no. 12200.
Edition/Format:   eBook : Document : EnglishView all editions and formats
Database:WorldCat
Summary:
Abstract: While most empirical analysis of prediction markets treats prices of binary options as predictions of the probability of future events, Manski (2004) has recently argued that there is little existing theory supporting this practice. We provide relevant analytic foundations, describing sufficient conditions under which prediction markets prices correspond with mean beliefs. Beyond these specific sufficient  Read more...
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Material Type: Document, Internet resource
Document Type: Internet Resource, Computer File
All Authors / Contributors: Justin Wolfers; Eric Zitzewitz; National Bureau of Economic Research.
OCLC Number: 68568807
Description: 1 online resource (1 volume).
Series Title: Working paper series (National Bureau of Economic Research), no. 12200.
Responsibility: Justin Wolfers, Eric Zitzewitz.

Abstract:

Abstract: While most empirical analysis of prediction markets treats prices of binary options as predictions of the probability of future events, Manski (2004) has recently argued that there is little existing theory supporting this practice. We provide relevant analytic foundations, describing sufficient conditions under which prediction markets prices correspond with mean beliefs. Beyond these specific sufficient conditions, we show that for a broad class of models prediction market prices are usually close to the mean beliefs of traders. The key parameters driving trading behavior in prediction markets are the degree of risk aversion and the distribution of beliefs, and we provide some novel data on the distribution of beliefs in a couple of interesting contexts. We find that prediction markets prices typically provide useful (albeit sometimes biased) estimates of average beliefs about the probability an event occurs.

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