Scott Sumner has long argued that the Federal Reserve or the US Treasury should help set-up a NGDP futures markets and conduct monetary policy based on market expectations of NGDP. This is a great idea, but so far it does not really look like the Fed is interested in the idea.

However, there is another and far more simple possibility. Scott should just drop the good people at Iowa Electronic Markets (IEM) a mail and ask them to set up a “prediction market” on future US NGDP. They would probably be happy to play along – after all this is the sexiest idea in US monetary debate today.

So what is IEM? It is “a group of real-money prediction markets/futures markets operated by the University of Iowa Tippie College of Business. Unlike normal futures markets, the IEM is not-for-profit; the markets are run for educational and research purposes. The IEM allows traders to buy and sell contracts based on, among other things, political election results and economic indicators. Some markets are only available to academic traders. The political election results have been highly accurate, especially when compared with traditional polling. This may be because it uses a free market model to predict an outcome, instead of the aggregation of many individuals’ opinions. The speculator is more interested in a correct outcome than in his or her desired outcome.” (Stolen from Wikipedia).

Prediction markets have been very successful in predicting the outcome of for example US presidential elections so why should prediction market not be able to predict NGDP two, three or fours year out in the future? At least prediction market based forecasts of NGDP will be as good as any in-house forecast from the Fed.

How would it work? IEM would set up a bet on US NGDP for 2012, 2013 and 2018. Scott is presently recommending that the Fed should aim for bringing back NGDP to the pre-crisis trend and thereafter target a growth path of 5%. The outcome from the prediction market can then be compared with Scott’s target path – if the predicted numbers are below Scott’s preferred path then he has “market backing” for claiming US monetary policy is too tight…and maybe even Ben Bernanke would play a long…

PS If IEM are not up for the challenge then the good people at the Holly Stock Exchange might be up for it – Scott after all is fast becoming a big celebrity.

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UPDATE: Just found out somebody else got the same idea (before me) – see Chris Fox and John Salvatier at  “Good morning, Economics”.