Mercury’s Blog

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I believe that the recent request for input by the CFTC is an important opportunity in the overall development of prediction markets. Right now very few responses have been made (see them all here), and the deadline is Monday, July 7th. I highly encourage everyone all of my readers to seriously consider submitting their responses to the CFTC questions.

The CFTC is correct to address their treatment of prediction markets. For too long this tool, which could be very innovative and useful to the public at large, has existed in a legal haze that has stunted its growth into the American mainstream. No matter our opinion on the collective outcome, by dealing with the issue of what they call “event contracts” the CFTC will hopefully establish boundaries that give us a framework to either work within or fight against. (My personal hope is that the “work within” option is the result of this effort.)

There are three main issues the CFTC is trying to determine, and twenty-four individual questions to which they are seeking comment. The three main issues are:

1. Whether event contracts are within the Commission’s jurisdiction and if so, why (or why not)?
2. If event contracts are within the Commission’s jurisdiction, should there be exemptions or exclusions applied to them and if so, why (or why not)?
3. How should the Commission address the potential gaming aspects of some event contracts and the possible pre-emption of state gaming laws?

What I am going to do in the rest of this post and for the rest of this week (thus 5 parts) is “think out loud” with first drafts of my answers to the three questions above and some of the twenty-four detailed questions. While I am not a lawyer or professional economist, I hope to get to the key points of each question. Some I’m going to take a pass on because of the specialised nature of the question.

I encourage you to read my answers below and in the coming days and provide feedback! Either submit a comment below each post (no need to register; all you need is your name and e-mail address) or e-mail me directly. If you agree with me, please feel free to use my answers as a basis for your submission to the CFTC.

(I would also like to direct you to posts on this topic by Jason Ruspini here and here and Michael Giberson here. Vernon Smith, Nobel Prize winner in Economics, submitted a response which Chris Masse has put up on Midas Oracle.)

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Thinking out loud

1. Whether event contracts are within the Commission’s jurisdiction and if so, why (or why not)?

I would argue that event contracts do fit within the Commission’s jurisdiction, if only because they do not fit under the jurisdiction of any other institution. The Concept Release discusses two lines of reasoning, one of which implies that event contracts can be regulated by the CFTC, and another that implies that they are excluded.

In order to progress and protect this innovative tool, it needs to fall under some institution’s jurisdiction. Fundamentally, the CFTC is the institution that is best suited for this task. Though event contracts may be subject to interpretation, it is the CFTC that is best able to make that interpretation and define how and where event contracts are able to be used.

2. If event contracts are within the Commission’s jurisdiction, should there be exemptions or exclusions applied to them and if so, why (or why not)?

There should be exemptions or exclusions made for event markets that are being run by and exclusively for an internal corporation, organisation, or academic institution.

For corporate markets, or those run by similar private or non-governmental organisations, there should be virtually no limits on what is allowed. Each organisation will be able to determine what information is critical for them to aggregate through event contracts. Academic institutions should be allowed to conduct the fullest range of potential markets as they explore the maximum potential and most innovative applications of event contract marketplaces.

The only area where I might be hesitant for the Commission to provide exemptions or exclusions would be event contract marketplaces where retail customers could trade. In this case I believe there should be some Commission involvement to ensure that there are at least minimal protections for retail customers. This can and should be largely self-regulating, where the Commission only develops a framework that ensures customers are protected and verifies that marketplace owners regulate themselves to meet that framework. There should not be any undue burden on marketplace owners, as many international marketplace owners have already shown they can self-regulate quite successfully.

3. How should the Commission address the potential gaming aspects of some event contracts and the possible pre-emption of state gaming laws?

“Gaming” is a phrase that can be interpreted very differently by different individuals. Some people think that trading wheat and oil futures is the same as gambling. Others think that placing bets at horse tracks isn’t gambling if you’re knowledgeable about the sport.

Where most people and institutions try and distinguish between what is gaming and what is not comes down to what is being traded. I argue that there is a societal consensus that contracts on the outcome of a random event (spin of a roulette wheel, roll of dice) is gaming. Additionally, I would argue that there is also a societal consensus that contracts on the outcome of a sporting event (football game, basketball game, horse race) constitutes gaming. Except for those situations, there is no broad consensus as to what constitutes gaming, and thus the Commission would certainly be in its rights to address event markets as it sees fit in any other type of contract.

Wrap-up

Do you agree or disagree? Please comment below.

In the next four posts I will be posting my first-draft answers on the detailed questions in the Concept Release. They will be questions on: Public Interest, Jurisdictional Determinations, Legal Implementation, and Market Participants.