Managerial Economics 2nd Edition by William Boyes

Exercise 10

Terrorist Markets
It is vitally important for the United States to anticipate and possibly offset future terrorist attacks. Similarly, it is necessary to know whether certain government leaders might be overthrown or what developments in other parts of the world might occur such as Russia invading Georgia or Poland. How can such information be obtained? Could markets be used? A few people thought the best method would be to create a market whereby people could speculate on certain events and could profit from correct predictions. The Defense Advanced Research Projects Agency (DARPA), a research think tank within the Department of Defense, decided to create a market through which traders could buy and sell contracts that specified various events. For example, contracts could be based on questions such as "How fast will the non oil output of Egypt grow next year?" or "Will the U.S. military withdraw from country A in two years or less?" The concept was to discover whether trading in such contracts could help to predict future events and how connections between events were perceived.
Critics tore into DARPA for creating a way to bet on terrorism. It was argued that a terrorist could bet on some act of terrorism and then carry it out, thereby profiting on tragedy. Once people started to hear about the DARPA project, funding was cut and all research related to it was terminated.
How could a market provide information about terrorism?