Risk Markets And Politics

Sunday, October 15, 2006

The Bottom-up Approach to Legal Prediction Markets

As hoped, the gambling crackdown is beginning to energize efforts that will eventually lead to legal prediction markets in the United States. As expected, some call for CFTC regulation, while others would prefer an exemption of the kind currently protecting horse-racing and fantasy sports, while libertarians tend to favor legal and regulated internet gambling in general.

The most flexible outcomes are also the most expensive ones, at least if one discounts the option of openly starting a real-money exchange and then relying on a combination of the skill/chance distinction and one's good intentions to receive a favorable ruling. The CFTC option would be the most restrictive, but the least expensive since it might not require any lobbying. Proponents of the other two options are left to wonder where the money behind a lobby will come from. Prediction markets have apparently not yet "made millions in decision-value" for anyone. The overseas exchanges and books might have made millions in commissions and spreads, but the US government considers them illegal, and their US clients have little net profit to speak of. In terms of a more general gambling legalization, real prediction market allies actually seem to be few and far between. The Poker Players Alliance is going its own way, turning its back on skill-based contests with appreciable social benefits. American casinos don't seem as hostile as they once were, but remain on the fence. Unfortunately, there is plenty of money on the opposite side, including all professional sports leagues.

Tom W. Bell's suggestion that lobbying campaigns take place at the state level could therefore be helpful. Efforts that would be ineffectively small at the federal level could be marshaled and directed at the most favorable states. The markets would only be legally open to those states' residents, and the operators of the markets should make the good-faith practice of blocking clients from states were gambling is clearly illegal. But there is reason to suspect that if such a law is passed in one state, others will follow, in part from precedent, in part as a tax-dollar rush. At some point, a network effect will help the process along. Within a couple of years, a "confederation" of states where prediction markets are legal could be bootstrapped.

Leaving aside the possibility that a federal backlash might remove the safe-harbor section of the Wire Act described by Tom Bell, what are the most propitious states for such a plan? States that lack casinos are the natural places to start in order to avoid opposing interests. Using the summaries provided by gambling-law-us.com, what follows is a list of states that have no commercial or tribal gambling industries, no explicit law against online gambling, and whose definition of gambling at least questionably applies the dominant factor test of chance over skill — at least according to gambling-law-us.com. In order of population: Pennsylvania(p), Ohio (f), Georgia(d,f,p), Virginia (f), Massachusetts(p), Tennessee(d,f), South Carolina(p), Kentucky(f), New Hampshire(d,f), Hawaii(d,f) and Vermont.

By my own reading of the appropriate laws, there are some unfortunate caveats:

d: The dominant factor test may not actually apply. Often the laws read as, "notwithstanding that skill of the contestants may also be a factor therein", or "dependent upon chance even though accompanied by some skill". Thus bets may be considered illegal even if skill is the dominant factor.

f: Aggravated gambling is a felony. "Aggravated" mainly applies to ongoing businesses that capture some fee for taking (or matching) bets. If the dominant factor test applies and the markets don't touch specifically prohibited subjects, this may not matter.

p: There are specific prohibitions against betting on a political election or nomination outcome (though not against betting on policy events).

There are doubtless many other issues that I am unaware of that will disqualify or reinforce some of these choices, including precedents and interpretations on the chance/skill distinction. There may also be good reasons for including some that were left out. For one thing, it can be argued that the sorts of markets we may be interested in will have a different clientele than the slot-machines and blackjack tables of traditional casinos, and so the lack of opposing interest criterion can be demoted. This is a headwind that prediction markets do not share with poker and the PPA.

That said, another danger to this plan is that national interests may intrude in those states where they currently have little presence, not to mention the federal government applying funding-related pressure. This sort of dynamic is surely in part responsible for the homogeneity of US state laws, but a more experimentalist regime in which laws meaningfully diverge would be more productive and beneficial to the nation in the long run.

To give-in to a sweeping analogy, from its very beginning, biological evolution is made possible by barriers. Barriers allow and promote diversity, which leads to the lucky strikes, the better ways of doing things.. that survive.

In any case, the good intentions of proponents of markets on science and policy claims should be clear, and they will no doubt be in contact with state Attorneys General offices in the coming months.


  • i agree with the legislation which aims to ban credit cards as a payment method for online gambling of any sort... i mean its a no brainer when you consider you are placing somebody else’s money on an uncertain event happening with the aim to recoup more than you invested. Chance and credit do not mix well in my opinion, and continuing to allow it would only contribute further to negatively affecting the high levels of personal debt many citizens today find themselves in. I agree however, in a sense that it won't work - i mean whats the point in banning credit card payments for online poker, for example, but not online sports betting? slightly hipocritical no? I mean how can you allow someone to participate in online horse racing betting, but not have a gamble on a hand of cards? both activities involve a large degree of chance, and neither are guaranteed to yield financial return.
    It also infuriates me that the minority of irresponsible gamblers [those paying with someone elses money!] have now ruined the fun of online betting for everyone else - those like me who pay with money they actually have in their bank!! boooo

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