Prediction Markets Kalshi and Polymarket Move to Ban Insider Trading, But Key Economist Argues It’s Essential

(SeaPRwire) –   Prediction markets are facing increasing scrutiny.

On Thursday, the Department of Justice revealed charges against a U.S. Army soldier involved in planning a mission to capture Nicolas Maduro. He faces five felony counts for allegedly using classified information to place a $33,000 bet on Polymarket that the raid would occur, later cashing out approximately $400,000 when it did.

The previous day, Kalshi penalized and suspended three federal candidates for insider trading by wagering on their own electoral contests. Responding to growing pressure, both Kalshi and Polymarket have introduced new rules prohibiting politicians from betting on their own campaigns, athletes from trading on their own sports leagues, and employees from trading on contracts related to their employers.

However, Robin Hanson, an economist who has championed the intellectual argument for prediction markets for almost four decades, contends this approach is mistaken.

“You want them trading,” said Hanson, a George Mason University professor who contributed to developing the market scoring rule common in prediction markets, referring to insiders. “You want the most accurate prices. That’s quite clear. The market’s purpose is to inform decisions.”

For a segment of consumers, especially younger men, prediction markets present a tempting arbitrage chance. Many policymakers, however, view them as a problematic plague, essentially equating them with “gambling.” Even former President Donald Trump stated he was “never very much in favor” of them, notwithstanding his son’s business connections to the platforms.

Yet for proponents of free markets, prediction markets are a mechanism to financially incentivize people to reveal the truth swiftly. For certain events, this impact is minimal; for instance, markets allowed nearly everyone to learn Lady Gaga was this year’s surprise Super Bowl guest a day in advance.

But more significant revelations have also occurred. During the final hours of the Biden administration, an anonymous Polymarket trader earned about $300,000 by correctly betting on four specific pardons the president would grant before departing.

As with all economic models, this one relies on a key assumption: that insiders will participate. An individual with knowledge purchases a “yes” contract, driving the price toward reality. Without this, the market offers no speed or accuracy advantage over traditional news or polls.

This is not to say Hanson excuses every politician or soldier. He acknowledges there are “tradeoffs in society.”

“There are organizations that want to keep secrets, and then there’s a broader world that often wants to know those secrets,” Hanson said. “And I don’t believe we should swing to either end of that spectrum.”

According to Sen. Elissa Slotkin (D-Mich.), a co-sponsor of a bill to prohibit government employees from trading on prediction markets, a soldier placing a $400,000 bet on a mission before it starts—an action that attracted attention even before the soldier’s arrest—poses a clear “operational risk.”

Hanson does not contest that point. But he urges critics to examine Wall Street.

“Many people will claim prediction markets exploit people,” he stated. “But that’s precisely what ordinary financial markets do in the same manner.”

Hanson believes insider trading is “rampant” in conventional financial markets. He observes that when a company announces major news, half the stock price movement typically occurs beforehand, with roughly half of that attributable to insider trading and the rest to observant traders. The SEC prosecutes only a tiny fraction of such trades.

He noted it wasn’t always illegal. The change occurred a century ago, but the SEC’s initial rule only applied narrowly to corporate officers trading on their firm’s confidential data.

Then, approximately 15 years ago, he added, the Commodity Futures Trading Commission broadened the rule to cover “everybody who had promised to keep a secret.”

This expansion, in Hanson’s view, transformed insider trading from a specific corporate governance rule into a wide-ranging duty for everyone to aid in secret-keeping. He argues this goes too far.

“I would prefer a more intermediate tradeoff,” he said. “Organizations—it’s acceptable for them to use contracts to try to protect their secrets, but it’s also acceptable for journalists, for example, to try to uncover things those organizations don’t want known.”

Given that society already accepts journalism’s role in revealing secrets, he sees no principled basis for applying a stricter standard to prediction markets.

He proposes a test: any law banning government employees from prediction market trading should, by the same reasoning, ban them from speaking with reporters.

“It’s the notion that certain elites should control key information aggregation, and ordinary people in these markets simply shouldn’t be involved,” Hanson said. “That’s a sort of elitist attitude I must reject.”

Yet even if prediction markets warrant the same leeway as journalism, it raises the issue of what happens to those who lose in markets designed to benefit insiders.

To this, Hanson shares advice he gives his economics students in finance class.

“When you sit down at a poker table, you’re supposed to look around and identify the fool,” he remarked. “If you don’t spot the fool at the table, you should leave, because it’s you.”

He believes individuals should assess their chances and exit. But if they choose not to, he does not consider it more scandalous than an artist enduring poverty for their craft or a friend accruing debt from buying excessive jet skis. The modern era permits considerable risk-taking, Hanson noted, including allowing young people to choose romantic partners.

The core question is not whether prediction markets are risky, but whether they generate value beyond that risk. For Hanson, the answer is evident.

“It’s a great democratic institution where everyone is permitted to take part,” he concluded. “But that doesn’t mean everyone is advised to participate.”