Earthquake insurance has many challenges. Some people (or companies) may prefer a simple payout if an earthquake of magnitude Q within R geodesic miles of point S is published on USGS by date T.

Prediction markets are legal in some jurisdictions. Are there any potential legal issues for a US citizen setting up a simple service where people and companies can freely trade reasonable(*) sums in yes/no positions on their favorite (Q,R,S,T) tuples?

(*) There may need to be some restrictions to minimize risk to the business, such as spreading out expiration dates, limiting contract duration, and limiting total wagers on each expiration date. Especially in the early funding rounds.

Deposits could be held at a bank that already meets custodial requirements. The USGS website could be regularly archived and, if needed, interpreted by a neutral lawyer to resolve settlement disputes. There could be a standard 5-day period between expiration and settlement to allow disputes to be resolved before it's too late (wrong party paid). Are there any other potential liabilities to consider?


Generally, whether or not something constitutes gambling as opposed to a legitimate futures market or consulting arrangement, is whether the matter to be predicted is a "game of chance" or a matter of skill and science.

Earthquake prediction is in a gray area. There is skill and science involved, and both actuaries for earthquake insurers and government officials do and can make predictions and be paid for making predictions (ex ante), and a "success bonus" would not be improper.

At the current levels of scientific knowledge, sufficiently detailed individual predictions are effectively random, but this is also true, for example, for futures markets in agricultural commodities which depend to some extent on weather prediction beyond the scope of current scientific knowledge.

Ultimately, I would be surprised if a court held that a prediction market was a form of illegal gambling. Gambling law enforcement in the U.S. is not vigorous, and judges and prosecutors and regulatory agencies have taken note of the fact that true gambling in a variety of forms has been legalized in various contexts, so the public policy against gambling and the will of the key legal actors to enforce edge cases of a prohibition that has increasingly more exceptions to it, seems unlikely. This is particularly true given that economists would be available to testify as to the public policy benefits of prediction markets that set them apart from idle gambling with no positive externalities.

So, while this isn't a clear cut case, I would expect that a prediction market would not be held to be illegal as a form of gambling. But, it still might be subject to regulation either as a form of commodity market, or as a public contest, or perhaps under principles applicable to trusts and to contracts that are open to being accepted by multiple parties. The administrator would, at a minimum, be a fiduciary with respect to the funds held pending payouts.

The safer course of action would be to obtain an opinion letter from an attorney, or better yet, an advanced ruling from relevant government agencies such as the Commodities Futures Trading Commission and the relevant insurance regulator.

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