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What the prisoner's dilemma reveals about real money – y'know, the hard stuff...
 
WANT to know the secret of success in today's civilized world? asks Bill Bonner in his Diary of a Rogue Economist.
Be civilized.
More on that in one moment...
 
First, we note that the Dow hit a new record high this week of 17,688. And gold rose back to the $1200-an-ounce mark. It appears to have bottomed out. Time will tell.
 
Remember that gold is not an investment. It is money – the best money. You keep some on hand; you never know when you may need it.
 
Now, back to the secret of success...
 
In 1962, Robert Axelrod was still a student. But he had access to the University of Michigan's only computer – a primitive, clunky machine.
 
Students were just starting to figure out what to do with computers. And Axelrod's idea was to program it to play a game.
 
The game was meant to resolve what is known as the prisoner's dilemma.
 
You and a friend get busted for drugs. If you keep your mouths shut, you will both walk away. But if one of you rats out the other, the snitch will go free and the other will do time. If you both turn on each other, both of you will do time...but probably not as much, since you have both cooperated with the prosecution.
 
You are in separate cells being sweated by the cops.
 
What to do?
 
The question is not just theoretical. In many situations – business and personal – you have to make a decision about what to do. Are you nice to the people you deal with? Or do you look out for No.1, regardless of the consequences to others?
 
In a divorce, for example, do you try to get the most you can get? Or do you work together for the best outcome for both of you?
 
What's the best strategy?
 
A subculture of logicians arose trying to answer this question. Inevitably, the geeks were pulled into action. Axelrod developed computer algorithms to model the choices.
 
One was always nasty (which he called "Lucifer"). One was always nice (which he called "Jesus"). Others were more complicated.
 
The game was played over and over again, allowing the programs to modify their behavior depending on the reception they received.
 
Which was most successful? A program called "GTFT" – Generous Tit for Tat.
 
It always opened like a saint, with a generous move. But if it was met with a nasty move, it retaliated like a sinner. One time out of ten, though, it answered nastiness with undeserved generosity.
 
GTFT is a stick-figure version of how you succeed in modern civilization. You are nice. You expect others to be nice. And you retaliate when they're not. It works well, more or less, on a personal level. And it works in an economy.
 
We have already seen why command economies do not work: They are not very nice.
 
Instead of the give and take of a market economy, everyone is forced to take what he is given. There is no room for tit or tat; central planners tell everyone what to do.
 
But they never have enough information or bandwidth. They don't know what producers can produce or what consumers want. They try to compensate for ignorance of the specifics by putting people into categories: proletariat, bourgeoisie, rich, poor, young and old – whatever seems convenient at the time.
 
And they simplify quantity and quality with heavy-handed statistics that are largely meaningless.
 
In one famous example from the Soviet Union, central planners gave the nail producers their quotas in terms of weight. Their work assignment had nothing to do with what customers wanted; they simply were required to produce a predetermined number of pounds of nails.
 
They met their quotas by producing huge, largely unusable 10-lb. spikes. Realizing the problem, the planners switched to a quota based on the number of nails produced. This led manufacturers to produce millions and millions of tiny pins.
 
Once you ignore the civilized market system – in which people come to terms with one another voluntarily, tit for tat – you are headed for trouble.
 
The Soviet Union provided us with a case study over a 70-year period that involved roughly 300 million unwilling participants. The results were conclusive: Command economies cannot compete with market economies, for reasons explained by Friedrich Hayek 80 years ago in his book The Fatal Conceit.
 
Hayek was talking about economics. Our colleague Porter Stansberry's insight was that the same principle applies to individuals in their personal and business lives.
 
All transactions – in business, career, love and daily commerce – are based on mutual advantage. You can't expect to get without giving.
 
Yes, you can bully. You can threaten. You can deceive. You may get what you want...for a while. But it is the win-win deal that keeps friends, and customers, happy. It's the generous tit-for-tat program that works.
 
But that's not the end of the story...
 
As Axelrod's computer models kept playing the prisoner's dilemma, GTFT evolved. The less often it retaliated, the better it worked.
 
The parallel in the real world is obvious: The more trust in a society, the more efficient its tit-for-tat games become.
 
When you can trust your counterparties to do the right thing, you don't need to pay for security, verification, audits, police, courts, surveillance, lawyers and other costs of protection and enforcement.
 
But the more you let down your defenses, the more you lay yourself open to nasty surprises. As the computer models happily played "Jesus," a rogue program – resembling "Lucifer" – attacked. The whole system broke down.
 
The lesson?
 
Be generous. Be nice. But keep some gold, just in case.

Bill Bonner has co-authored a number of New York Times Bestsellers including Financial Reckoning Day, Empire of Debt and Mobs, Markets and Messiahs. In his own opinion, Bill's most recent title, A Modest Theory of Civilization: Win-Win or Lose, is his best work yet. Bill also founded The Agora, a worldwide community for private researchers and publishers, in 1979. Financial analysts within the group have exposed and predicted some of the world's biggest shifts since that time, starting with the fall of the Soviet Union back in the late 1980s, to the collapse of the Dot Com (2000) and then mortgage finance (2008) bubbles, and more recently the election of President Trump.

See full archive of Bill Bonner articles

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