People can use betting to predict the future. At least that’s the idea behind prediction markets. But how do they actually work? And how does crypto fit into the picture? This article will answer these questions!
Blockchain technology is transforming multiple industries as new use cases for decentralized networks, products, and services emerge. (Read here how blockchain technology revolutionizes the gaming industry!). The prediction market is one of the fastest-growing sectors adopting decentralized structures and blockchain technology to rival existing centralized platforms. But it also works the other way around! Prediction markets help to solve existing problems in the crypto industry!
1. How do prediction markets work?
Prediction markets are speculative platforms where interested parties can place bets on wide-ranging topics of interest in the future. These topics can vary from “Who will be the next president in the U.S.?” to “How much will one bitcoin cost in October 2023?”.
The main aim of prediction markets is to find out and aggregate different beliefs about the outcome of a future event. The traders then bet on the beliefs that they think will be the most likely outcome. The different views have varying payoffs determined by the proportion of traders that bet on each outcome.
It’s important to know that prediction markets are a zero-sum game! If you bet correctly, you will win money from those betting false and vice versa.
2. How does blockchain technology improve prediction markets?
The adoption of cryptocurrencies in prediction markets makes them more accessible and integrative. Blockchain technology dissolves most boundaries centralized prediction markets show:
Accessibility: Similar to traditional financial markets, regulation limits the prediction trade in different ways. E.g., trading hours, capital controls, and national borders. As a result, central authorities determine who can participate and the variety of events they can bet on. That limits the number of outcomes that the traders can speculate on while eliminating the ability to create their own markets. Decentralized prediction markets, on the other hand, have no such boundaries. They are open for anyone across the world to participate. The permissionless peer-to-peer structure allows traders from all nations, ethnic and financial backgrounds to operate on any prediction platform they like at any time.
Censorship: The centralized markets only allow low betting caps to lower risks for the players. That bars highly-confident participants from placing huge bets to back their beliefs as it would sway the markets. Furthermore, there are existing restrictions like exclusion from placing bets if a user already won in many markets. Decentralization eliminates these constraints and enables anyone to interact with prediction markets in a restrictionless way. Now users even have the opportunity to create markets on their own.
Risk: Decentralized prediction markets operate in a trustless environment where every user secures the network while eliminating the counterparty risk involved with intermediaries. They are also more resistant to corruption and network attacks as there is no single point of failure, and nobody can shut down the network.
3. Usage of prediction markets in crypto: DAOs
Many Decentralized Autonomous Organizations (DAOs) in the crypto space suffer from one specific problem: missing decentralization! In most DAOs, only a handful of meaningful people make crucial decisions. In order to accomplish decentralization, there must be incentives for network users to participate more within their DAO. Voting alone is not “attractive” enough for most users.
Prediction markets are a great way of providing exactly such an incentive. Why? Simply because people tend to engage more with a thing and put away their dogmas if there is money to be made! Think of bitcoin mining as an example. The only reason there is competition and engagement with such an insane amount of hashing power involved is the simple fact that miners want to earn money! That’s how game theory works.
And for the same reason, prediction markets could increase the number of people engaging within DAOs! It would also help raise the number of valuable and constructive proposals, as more people develop ideas to make money with them.
As you can see, decentralized prediction markets have enormous potential to shape the future of prediction markets in general and compete with existing structures within the crypto space! Combining game theory with decentralized blockchain technology opens up fascinating opportunities in many ways. In my opinion, there is a high chance for these developments to succeed in the long run.