Block by Block: Prediction Markets

Block by Block is a series where we dive into different industries and examine the entry points for decentralization.

The "wisdom of the crowd" phenomenon has been widely explored by many experts. The discovery that the aggregate answers of many different people are often superior to those of individuals has jumpstarted new companies and industries. Companies like Wikipedia, Quora, and StackExchange show us how crowdsourced answers can lead to fast and accurate information. The rise of prediction markets demonstrates how crowdsourced answers can lead to financial gains.

These markets, if leveraged at scale, could potentially provide the world with one of most efficient forecasting tools available. However, the prediction market industry is greatly handicapped currently due to censorship and centralization --  two words that should immediately capture the interest of entrepreneurs in the world of crypto.

Where are the points of entry for decentralized prediction markets?

• Centralization: Centralized entities running prediction market platforms have full control over the decision-making process. These gatekeepers determine the completion of an event, the results of that event, and the distribution of funds. They effectively act as the judge, jury, and executioner of their platforms. As an example, PredictIt, a political prediction market, often ends its rules with the following: "PredictIt’s decisions and determinations under this rule shall be at PredictIt’s sole discretion and shall be final."
• Censorship: Centralized prediction markets are naturally prone to censorship. Censorship can come from both government and corporate entities. Because prediction markets often run parallel to gambling and betting markets, they are prime targets for government regulators. Intrade, one of the leaders in the prediction market space was promptly shut down by the CFTC because it was offering market contracts without regulatory approval. On the corporate side, centralized prediction market platforms can onboard or offload users to and from its services. If a user creates a market that a platform forbade, he/she can get banned.
• Limited Accessibility: A result of heavy regulation and censorship is the severe limitation of participants. Because users are prevented from participating in various centralized prediction market platform, the markets created on these platforms are going to be inefficient. The accuracy of the wisdom of the crowd only works when you can get access to a diverse set of unbiased participants.

With the problems facing centralized prediction markets, how do decentralized prediction markets solve them?

• Centralization → Decentralization: Unlike their central counterparts, decentralized prediction markets run on a network of server nodes. These distributed nodes help maintain the markets, determine the results of an event, and distribute funds. Therefore, no single entity controls the decision-making process on decentralized prediction market platform. 
• Censorship → Uncensorable: By eliminating a central authority that governs a prediction-market platform, decentralized markets avoid the risk of regulatory shutdown. Moreover, because there is no single authority determining what markets are allowed on the platform, users can create any prediction markets they want.
• Limited Accessibility → Increased Accessibility: Because decentralized prediction markets are accessible to anyone with an internet connection, they greatly increase the pool of participants. Global access, in turn, increases the accuracy of predictions as any person with superior information can now leverage that information for financial gains.

What are the barriers to entry?

• The "Oracle Problem": Decentralized prediction markets often require oracles to provide data and resolve prediction markets, i.e. determine which outcome of a bet should pay out. This places a lot of power in the hands of an oracle. There is a risk that the use of these oracles for resolving markets could re-centralize the decentralized protocol. As of current, no project has fully introduced a perfect decentralized oracle, and most prediction markets still rely on centralized data sources.
• UX/UI: As with new technologies, decentralized prediction market platforms are not user-friendly. Current platforms require users to download and sync nodes, buy tokens, load tokens, create markets, and pay blockchain transaction fees. While the UX/UI will likely improve with time, in their current state, decentralized prediction markets are only appealing to the crypto-competent. 
• Morality: There is concern that the creation of “immoral” markets such as assassination markets on decentralized prediction markets will be harmful to society. While the uncensorable nature of decentralized platforms can enable the creation of an “Uber of Knowledge,” the presence of “immoral” markets could discourage the adoption of these platforms.

It is exciting to imagine a world where you get instant access to information from a global network of humans. However, one could also imagine living in a world where criminals carry out heinous acts based on what prediction markets want. Whether decentralized prediction markets will be a net positive or a net negative for society isn't easy to predict. Maybe someone can make a market in finding the answer.