wouldn't be able to tell the difference between a payment to somebody to burn down the lighthouse and an insurance contract
A prediction market provides trust that a payment will happen if a specific event happens.
But insurance also requires another kind of trust. If you want to insure your goods, the insurer needs to evaluate the moral hazard in order to determine his rate. But here, he doesn't know if the buyer of the contract is the owner of the lighthouse, so there's no way he can do that: maybe the buyer turns out to be someone who won't suffer from the loss of the lighthouse and who can easily commit a crime. Because the moral hazard is huge, the insurer can't provide insurance at competitive rates.
Insurance contracts where the buyer of the insurance is anonymous to the insurer don't seem desirable to me. They enable assassination markets but have no real use (except for small amounts that won't create moral hazard, but I'd call that betting rather than insurance).
The less information you reveal, the less money you'll make from the market (since you're only trading on part of your private information).
In my example, the private information is the knowledge of the moment of the explosion one second before it happens, coupled with knowledge of a cryptographic secret. It's valuable on the market because you can only get this information if you published the contract and committed the crime yourself: therefore, the contract rewards the person responsible for committing the crime and only that person. The reason people who hate lighthouses will back that contract even if they don't trust the criminal is that they have nothing to lose: they will only "lose" their bet if the criminal destroys the lighthouse, which is what they wanted all along so it's actually a win from their point of view.
But the cryptographic secret is not valuable anywhere else, and the police has no use for it. The only information the police gets from the market is that the lighthouse has rich enemies willing to employ criminal means. Which they probably already knew.
It's quite possible that the participants in a market could develop social norms which prevent this from happening
The market would be even better off if those contracts were banned as soon as they appear. The fact that people can randomly decide whether a contract is valid after you've invested money is a risk for legitimate users (e.g. if you bought insurance against drought, you want to be certain that you'll get paid), and it's not necessary here. To avoid "public bad" contracts, you only need a deletion mechanism.
But for such mechanisms to exist, the possibility of "public bad" contracts must be acknowledged, not dismissed. That's the point I wanted to make.
This is absolutely not true. Unfortunately, a well-designed claim can circumvent this restriction: "The lighthouse will be destroyed in 2015 and the criminal group will broadcast a string hashing to 'cc9a1595600ebb745ec2cea73e80aad5' one second before the explosion".
This gives no useful information to the police, but it's enough for the criminal to unambiguously identify himself.
I'm disappointed that they didn't consider such scenarios.
A prediction market provides trust that a payment will happen if a specific event happens.
But insurance also requires another kind of trust. If you want to insure your goods, the insurer needs to evaluate the moral hazard in order to determine his rate. But here, he doesn't know if the buyer of the contract is the owner of the lighthouse, so there's no way he can do that: maybe the buyer turns out to be someone who won't suffer from the loss of the lighthouse and who can easily commit a crime. Because the moral hazard is huge, the insurer can't provide insurance at competitive rates.
Insurance contracts where the buyer of the insurance is anonymous to the insurer don't seem desirable to me. They enable assassination markets but have no real use (except for small amounts that won't create moral hazard, but I'd call that betting rather than insurance).