and Economide, 2005; Chen and Pennock, 2007; Peters et al., 2007; Abernethy et al., 2013). The worst-case scenario can have a material impact on how the auctioneer clears the market even if such a scenario is very unlikely. In contrast, the market maker in the economists’ model is often exclusively concerned with maximizing his/her expected utility derived from the monetary payoff. When only the expected value of the future utility is concerned, extreme worst-case loss with a small probability of occurrence does not merit considerable attention. 

The contribution of our paper is two-fold. First, we present a theoretical framework through which pari-mutuel auctions can be reconciled with standard economic models. Regarding the economics model, we focus on a market maker with extreme ambiguity aversion for the future contingent event on which claims are written. The decision maker with ambiguity aversion is uncertain of which probability distribution accurately describes the contingent event. For a pari- mutuel market, we consider the Convex Pari-mutuel Call Auction Mechanism (Peters et al., 2005), which is an improved version of the PDCA. We show that the market-clearing strategy of the market maker with extreme ambiguity aversion is asymptotically equivalent to that of the CPCAM auctioneer. By asymptotic equivalence, we imply making the CPCAM increasingly completely pari-mutuel. 1 

Second, based on this unified theoretical framework, we design a new market called the Knigh- tian Pari-mutuel Mechanism (KPM). The KPM has a solid microeconomic rationale behind its design. We derive the optimization problem of the KPM by modeling the market maker using the theory of decision making under ambiguity aversion. The market-clearing algorithm explicitly con- trols for the level of the market maker’s ambiguity aversion. In addition, we propose an algorithm that can compute an optimal solution to the optimization problem in polynomial time. 

## 1.1 Literature Review 

In the prediction market literature, the KPM is most similar to Chen and Pennock’s utility-based market maker (Chen and Pennock, 2007). The utility-based market maker prices contingent claims 

