A prediction market allows users to bet on the future and receive winnings if they bet correctly.
An example of this is the Presidential Election: PredictIt.org gave anyone the opportunity to bet on whether Donald Trump, Hillary Clinton, or another candidate would win the election.
The organization would then decide on what happened, and pay out to users as specified.
However, with a central organization, we depend both on the organization to provide honest information about payouts and to truthfully act on political events.
In addition, the central organization is the only producer of markets, and it is able to censor users as desired.
How can we guarantee a fully open system?
If we seek to perform this with a decentralized system, how can we make this happen?
That’s exactly what smart contract platforms are for: letting you leverage the underlying blockchain protocol without having creating it from scratch.
We can tap into the censorship-resistant and trustless blockchain protocol and write smart contracts to handle the market logic.
Anyone can create and participate in a market.
In addition, execution of this logic is all public, giving guarantees that all funds have been distributed as intended.
Gnosis and Augur are two well-known companies that have deployed prediction market smart contracts.
So what can we do with these prediction markets?
An easy way to use them is to, quite simply, see predictions.
We can use prediction markets to “buy information.”
As users have an incentive to monetize information while revealing as little of it as possible, we can set up a prediction market which asks a simple question, such as… Will this movie be a flop?
By putting this in a prediction market, we can get a sense for the general audience’s perspective on some movie, paying them if they bet correctly.
Hollywood insiders, for example, would be particularly drawn to this, as they can leverage their immense store of knowledge to make money for themselves.
This allows the person asking the question to gather information while letting users keep specifics to themselves.
Other use cases include insurance, bug bounties, and ICO signaling.
The first market for insurance is a way to let users prepare against disasters through crowdfunding, and the second two are ways to incentivize certain actions, such as the honest exposure of bug bounties.
If a user notices a bug in a smart contract, they can heavily bet “yes” before revealing the vulnerability, allowing them to reap the rewards of their hidden knowledge.
An exciting use case of prediction markets is futarchy.
Futarchy is a system of government controlled by prediction markets.
The typical slogan is “Vote Values, but Bet Beliefs,” as futarchy aims to give citizens the power to put their money where their mouth is.
Elected representatives will define and manage national welfare.
Meanwhile, citizens who more often predict the outcome of some policy will be rewarded, and the rest will lose money.
Eventually, only the regularly successful will bet, meaning that policies will be decided by those with the most knowledge.
Research is still being done to examine the feasibility of futarchy on a blockchain, particularly by Gnosis.