PrepTest 91+, Section 4, Question 13
Passage A
Markets, such as stock exchanges, distill the collective wisdom of millions of individuals into a single number, and they do so with amazing efficiency. In contrast to other information-gathering institutions, such as committees and polls, markets require participants to put hard dollars behind their opinions. What's more, markets reward people who are right, not those who lie convincingly or are loudest or most aggressive or who have the most degrees after their name.
Some markets have been engineered for the purpose of providing forecasts. For over a decade, an academic project called the Iowa Electronic Markets has predicted the outcomes of certain elections better than 75 percent of the polls did. Investors put money into a pool. If there are two candidates, each dollar invested purchases two contracts, one paying $1 if candidate A wins, and one paying $1 if candidate B wins. Participants can then buy and sell those contracts at a website. If the going rate for candidate A is 53 cents, then the market as a whole thinks candidate A has a 53 percent chance of winning.
Markets are highly "efficient," in the sense that the market as a whole learns—lightning fast and very accurately—what informed people know. In one experiment, a dozen participants were permitted to trade a fictional stock, having been told that it was worth one of three possible amounts. Two of the participants were then told which amount had been selected, giving them "inside knowledge." Participants couldn't communicate with each other; they could only buy and sell on the market. But everyone watched the movements of the market price, and within seconds, everyone was acting as if they were insiders.
Passage A
Markets, such as stock exchanges, distill the collective wisdom of millions of individuals into a single number, and they do so with amazing efficiency. In contrast to other information-gathering institutions, such as committees and polls, markets require participants to put hard dollars behind their opinions. What's more, markets reward people who are right, not those who lie convincingly or are loudest or most aggressive or who have the most degrees after their name.
Some markets have been engineered for the purpose of providing forecasts. For over a decade, an academic project called the Iowa Electronic Markets has predicted the outcomes of certain elections better than 75 percent of the polls did. Investors put money into a pool. If there are two candidates, each dollar invested purchases two contracts, one paying $1 if candidate A wins, and one paying $1 if candidate B wins. Participants can then buy and sell those contracts at a website. If the going rate for candidate A is 53 cents, then the market as a whole thinks candidate A has a 53 percent chance of winning.
Markets are highly "efficient," in the sense that the market as a whole learns—lightning fast and very accurately—what informed people know. In one experiment, a dozen participants were permitted to trade a fictional stock, having been told that it was worth one of three possible amounts. Two of the participants were then told which amount had been selected, giving them "inside knowledge." Participants couldn't communicate with each other; they could only buy and sell on the market. But everyone watched the movements of the market price, and within seconds, everyone was acting as if they were insiders.
Passage B
Markets are not infallible. To many people, this statement is a form of economic blasphemy. I suggest those people should get over it.
In a recent election, the Iowa Electronic Markets had the eventual winner trading far lower than an opponent up until a few days before the event. For almost a solid year leading up to it, this market's "prediction" was that the opponent would win easily.
Think of markets as racetracks: you get paid lower odds the better the horse looks before a race. When the nag appears ill, old, or tired, the odds are highest, and buyers get the greatest potential payoff. When the steed starts to look healthier, the odds slide lower as a win starts looking more and more likely.
If "prediction markets" do not actually predict the future, then what do they do? I suggest they merely reflect the majority opinion at a given moment. That does not imbue them with any special omniscience. Think of them as polls that avoid random spoofing because the polled must pay an entry fee to participate. That generates more serious responses than other polls—but the answers are just as potentially wrong as any other future guess. Like the majority, sometimes they are right, and sometimes they are wrong.
Passage A
Markets, such as stock exchanges, distill the collective wisdom of millions of individuals into a single number, and they do so with amazing efficiency. In contrast to other information-gathering institutions, such as committees and polls, markets require participants to put hard dollars behind their opinions. What's more, markets reward people who are right, not those who lie convincingly or are loudest or most aggressive or who have the most degrees after their name.
Some markets have been engineered for the purpose of providing forecasts. For over a decade, an academic project called the Iowa Electronic Markets has predicted the outcomes of certain elections better than 75 percent of the polls did. Investors put money into a pool. If there are two candidates, each dollar invested purchases two contracts, one paying $1 if candidate A wins, and one paying $1 if candidate B wins. Participants can then buy and sell those contracts at a website. If the going rate for candidate A is 53 cents, then the market as a whole thinks candidate A has a 53 percent chance of winning.
Markets are highly "efficient," in the sense that the market as a whole learns—lightning fast and very accurately—what informed people know. In one experiment, a dozen participants were permitted to trade a fictional stock, having been told that it was worth one of three possible amounts. Two of the participants were then told which amount had been selected, giving them "inside knowledge." Participants couldn't communicate with each other; they could only buy and sell on the market. But everyone watched the movements of the market price, and within seconds, everyone was acting as if they were insiders.
Passage B
Markets are not infallible. To many people, this statement is a form of economic blasphemy. I suggest those people should get over it.
In a recent election, the Iowa Electronic Markets had the eventual winner trading far lower than an opponent up until a few days before the event. For almost a solid year leading up to it, this market's "prediction" was that the opponent would win easily.
Think of markets as racetracks: you get paid lower odds the better the horse looks before a race. When the nag appears ill, old, or tired, the odds are highest, and buyers get the greatest potential payoff. When the steed starts to look healthier, the odds slide lower as a win starts looking more and more likely.
If "prediction markets" do not actually predict the future, then what do they do? I suggest they merely reflect the majority opinion at a given moment. That does not imbue them with any special omniscience. Think of them as polls that avoid random spoofing because the polled must pay an entry fee to participate. That generates more serious responses than other polls—but the answers are just as potentially wrong as any other future guess. Like the majority, sometimes they are right, and sometimes they are wrong.
Passage A
Markets, such as stock exchanges, distill the collective wisdom of millions of individuals into a single number, and they do so with amazing efficiency. In contrast to other information-gathering institutions, such as committees and polls, markets require participants to put hard dollars behind their opinions. What's more, markets reward people who are right, not those who lie convincingly or are loudest or most aggressive or who have the most degrees after their name.
Some markets have been engineered for the purpose of providing forecasts. For over a decade, an academic project called the Iowa Electronic Markets has predicted the outcomes of certain elections better than 75 percent of the polls did. Investors put money into a pool. If there are two candidates, each dollar invested purchases two contracts, one paying $1 if candidate A wins, and one paying $1 if candidate B wins. Participants can then buy and sell those contracts at a website. If the going rate for candidate A is 53 cents, then the market as a whole thinks candidate A has a 53 percent chance of winning.
Markets are highly "efficient," in the sense that the market as a whole learns—lightning fast and very accurately—what informed people know. In one experiment, a dozen participants were permitted to trade a fictional stock, having been told that it was worth one of three possible amounts. Two of the participants were then told which amount had been selected, giving them "inside knowledge." Participants couldn't communicate with each other; they could only buy and sell on the market. But everyone watched the movements of the market price, and within seconds, everyone was acting as if they were insiders.
Suppose that, in an attempt to manipulate the Iowa Electronic Markets, several people invest large sums in contracts for long-shot candidate X. The price of contracts for X briefly spikes, but well-informed traders promptly sell their contracts for X at a profit, and the effect of the investments quickly vanishes. This outcome would tend to support
passage A, since it shows that contracts for an initially unpopular candidate cannot have a sustained increase in value
passage A, since it provides evidence that accurate information is quickly and accurately disseminated throughout the market
neither passage, since the attempt at manipulation was so unsuccessful and short-lived that it proves nothing
passage B, because it shows that a losing candidate can be temporarily ahead of the winning candidate
passage B, because it shows that the market simply reflects majority opinion in the population as a whole
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