Tag: Culture

Gresham’s Law: Why Bad Drives Out Good As Time Passes

Whenever coins containing precious metals have been used along with base metal coins of the same denomination, both legally accepted as tender, the bad coins have driven the good coins out of circulation.

Gresham’s Law is named after Sir Thomas Gresham (1519-1579), an English financier in the time of the Tudors.

However, the original principle had been stated at least forty years before by Nicolaus Copernicus and has been credited to Christian and Islamic scholars even before that. In some parts of the world (mostly Central and Eastern Europe), the law is still known as the Copernicus Law.

The idea may practically date back as far as the Athenian playwright Aristophanes. In his play The Frogs, Aristophanes compares the degradation of great politicians to the introduction of bad coinage.

I’ll tell you what I think about the way

This city treats her soundest men today:

By coincidence more sad than funny,

It’s very like the way we treat our money.

The noble silver drachma, which of old

We were so proud of, and the one of gold

Coins that rang so true

Throughout the world have ceased to circulate.

Instead the purses of Athenian shoppers

Are full of phoney silver-plated coppers.

Just so, when men are needed by the nation,

The best have withdrawn from circulation.

The coinage problem is mostly obsolete in the modern age, but the practical problems are as large as ever.

The outcome described by Aristophanes is common in competing human groups or organizations: When bad behavior has taken root, and that bad behavior has a “survival advantage” against good behavior, it becomes difficult, and occasionally impossible, to drive out the bad behavior; a process akin to natural selection.

In fact, one might call Gresham’s Law something of a special case of natural selection itself.

Forms of human behavior survive because they have a competitive edge against other behaviors. Self-interested groups naturally tend towards what works, so bad drives out good (in a moral sense) if it causes superior practical effects. This is one large reason why forms of regulation and policing are needed in human systems, to prevent the Law from working its magic.

In an illustration of this tendency, Charlie Munger applied Gresham’s Law to 1980s savings and loan banking practices in his 1984 Letter to Wesco Shareholders:

Although interest rates have subsided from the 1981-82 peak, the low and slowly changing interest rates of former years are plainly gone with the wind, as are the former government-decreed limits on interest rate competition for savings accounts and the favouritism for savings and loan associations over banks. But an agency of the U.S. Government (…) continues to insure savings accounts in the savings and loan industry, just as it did before. The result may well be bolder and bolder conduct by many savings and loan associations. A sort of Gresham’s Law (“bad loan practice drives out good”) may take effect for fully competitive but deposit-insured institutions, through increased copying by cautious institutions of whatever apparent-high-yield loan and investment strategies seem to allow competitors to bid away their savings accounts and yet report substantial earnings. If so, if “bold conduct drives out conservative conduct,” there eventually could be widespread insolvencies caused by bold credit extensions come to grief.

This can be common in some business fields. Take two drug salespeople – one willing to bribe doctors to make sales, and one not willing to do so. If the industry functions such that fraudulent business practices are not punished, and the bribery goes uncovered by the buyer’s organization, then bribery obviously gains a sustainable competitive advantage over non-bribery. Clearly, the deceptive practice will take hold, as salespeople unburdened by morals are promoted and compensated better than the high-roaders. It’s a clear form of Gresham’s Law.

Take also sub-prime mortgage lending practices in the lead up to the 2008 financial crisis. If two banks are competing for borrowers and one lets their standards slide to zero (or less), which is likely to prevail? Even if the practice is a “long-term loser,” it can still take hold in systems where short-term incentives provide encouragement to the actual decision-makers.

Canadian Prime Minister Mackenzie King once described the origins of Gresham’s Law and its effects in a similar fashion, dubbing it the Law of Competing Standards.

In the reign of Queen Elizabeth, an official named Gresham observed that where different metals were in circulation as coinage and some were better than others of the same nominal value, the coins made of the inferior metal tended to drive the better out of circulation. The better coins were either hoarded or melted down and sold as bullion, were used in the fine arts, or were absorbed in the foreign exchanges. In other words, what Gresham discovered was that cheaper money tends to drive out dearer; that when people begin to discriminate between two coinages, they will invariably pay out the inferior and hoard the better, thus removing the better from circulation. This phenomenon once generally observed came to be described as a “Law,” and was identified with Gresham’ s name, since it was Gresham who was first successful in drawing public attention to it. Amongst money-changers, Gresham’ s Law of the precious metals is better known than the Ten Commandments.

Something analogous to Gresham’s Law will be found to obtain in the case of competing standards in Industry. Assuming there is indifference in the matter of choice between competing commodities or services, but that in the case of such commodities or services the labor standards involved vary, the inferior standard, if brought in this manner into competition with a higher standard, will drive it out, or drag the higher down to its level. This is effected by the opportunity of under-selling which comes, where in such cases human well-being is sacrificed to material ends. The superior standard, not being recognized or demanded, is unable to hold its own, and in time disappears. This Law is just as real and relentless in its operation in Industry as Gresham’s Law of the precious metals is with respect to money and the mechanism of exchange. Indeed, a more accurate exposition would describe both as manifestations of one and the same law, which I propose to call the Law of Competing Standards. I see no reason why economists should not recognize the existence of such a law, and incorporate it immediately in economic science as being quite as significant as the Law of Supply and Demand, the Law of Diminishing Returns, or any other Law accorded a place in its nomenclature.

The Law of Competing Standards is doubtless a part of the general Law of Competition, under which the cheaper of two commodities gains in competition a preference over the dearer. What Gresham discovered was an important sequence of the Law of Competition as applied to coinage; namely, the disappearance, in the course of time, of the superior metals. Observance of a like sequence in the case of standards in Industry is highly desirable. As respects labor standards, I believe that recognition of the operation of the Law of Competing Standards over ever-widening areas would do more than aught else to clear up the most baffling problems with which Industry is confronted, and to point the way to a solution of many situations which hitherto have seemed incapable of solution.

***

Perhaps the most important application of Gresham’s Law is to avoid becoming part of systems where good behavior cannot win. Certain industries and activities lack the “policing” necessary to keep systems free from bad behavior. While it’s admirable to be the “cleanest shirt” in a pile of dirty laundry, certain areas of human life do not allow the clean shirts to win.

On the flip side, you’ll occasionally find situations where the good money drives out bad, and the cleanest shirts end up being worn the most. Those are the areas to aim your focus.

Gresham’s Law is one of Farnam Street’s Latticework of Mental Models.

The Man In The Arena: Citizenship In A Republic

It is not the critic who counts: not the man who points out how the strong man stumbles or where the doer of deeds could have done better. The credit belongs to the man who is actually in the arena, whose face is marred by dust and sweat and blood, who strives valiantly, who errs and comes up short again and again, because there is no effort without error or shortcoming, but who knows the great enthusiasms, the great devotions, who spends himself for a worthy cause; who, at the best, knows, in the end, the triumph of high achievement, and who, at the worst, if he fails, at least he fails while daring greatly, so that his place shall never be with those cold and timid souls who knew neither victory nor defeat.
Theodore Roosevelt1

There are those among us who dare to do more and in so doing draw attention to themselves. Sometimes they win, and sometimes they come up short but what they really enjoy is the fight — the striving to do better that’s needed to accomplish great things.

In contrast, most adults play it safe — standing on the sidelines watching others struggle to do more. As such, they know neither victory nor defeat — they only know how to comment on the struggle of others.

Remember Roosevelt’s oration the next time you criticize.

***

In Rising Strong, Brene Brown comments on Roosevelt’s speech, focusing on one particular part: “The credit belongs to the man who is actually in the arena, whose face is marred by dust and sweat and blood.” She writes —

Imagine the sound of a needle scratching across a record. Stop here. Before I hear anything else about triumph or achievement, this is where I want to slow down time so I can figure out exactly what happens next.

We’re facedown in the arena. Maybe the crowd has gone silent, the way it does at football games or my daughter’s field hockey matches when the players on the field take a knee because someone is hurt. Or maybe people have started booing and jeering. Or maybe you have tunnel vision and all you can hear is your parent screaming, “Get up! Shake it off!”

Our “facedown” moments can be big ones like getting fired or finding out about an affair, or they can be small ones like learning a child has lied about her report card or experiencing a disappointment at work. Arenas always conjure up grandeur, but an arena is any moment when or place where we have risked showing up and being seen. Risking being awkward and goofy at a new exercise class is an arena. Leading a team at work is an arena. A tough parenting moment puts us in the arena. Being in love is definitely an arena.

When I started thinking about this research, I went to the data and asked myself, What happens when we’re facedown? What’s going on in this moment? What do the women and men who have successfully staggered to their feet and found the courage to try again have in common? What is the process of rising strong?

I wasn’t positive that slowing down time to capture the process was possible, but I was inspired by Sherlock Holmes to give it a shot. …

In Season 3, there’s an episode where Sherlock is shot. Don’t worry, I won’t say by whom or why, but, wow, I did not see it coming. The moment he’s shot, time stops. Rather than immediately falling, Sherlock goes into his “mind palace”—that crazy cognitive space where he retrieves memories from cerebral filing cabinets, plots car routes, and makes impossible connections between random facts. Over the next ten minutes or so, many of the cast of recurring characters appear in his mind, each one working in his or her area of expertise and talking him through the best way to stay alive.

First, the London coroner who has a terrific crush on Sherlock shows up. She shakes her head at Sherlock, who seems completely taken aback by his inability to make sense of what’s happening, and comments, “It’s not like it is in the movies, is it, Sherlock?” Aided by a member of the forensics team at New Scotland Yard and Sherlock’s menacing brother, she explains the physics of how he should fall, how shock works, and what he can do to keep himself conscious. The three warn him when pain is coming and what he can expect. What probably takes three seconds in real time plays out for more than ten minutes on the screen. I thought the writing was genius, and it re-energized my efforts to keep at my own slow-motion project.

My goal for this book is to slow down the falling and rising processes: to bring into our awareness all the choices that unfurl in front of us during those moments of discomfort and hurt, and to explore the consequences of those choices.

[…]

On a cultural level, I think the absence of honest conversation about the hard work that takes us from lying facedown in the arena to rising strong has led to two dangerous outcomes: the propensity to gold-plate grit and a badassery deficit.

Footnotes

The Famous Game Show Problem

Ahh, the famous game show problem (also known as The Monty Hall Problem).

This is a probability puzzle you’ve heard of:

Suppose you’re on a game show, and you’re given the choice of three doors. Behind one door is a car, behind the others, goats. You pick a door, say #1, and the host, who knows what’s behind the doors, opens another door, say #3, which has a goat. He says to you, “Do you want to pick door #2?” Is it to your advantage to switch your choice of doors?

Marilyn Vos Savant, one of the “smartest” people in the word, offers her answer:

When you switch, you win 2/3 of the time and lose 1/3, but when you don’t switch, you only win 1/3 of the time and lose 2/3. You can try it yourself and see…..

The winning odds of 1/3 on the first choice can’t go up to 1/2 just because the host opens a losing door. To illustrate this, let’s say we play a shell game. You look away, and I put a pea under one of three shells. Then I ask you to put your finger on a shell. The odds that your choice contains a pea are 1/3, agreed? Then I simply lift up an empty shell from the remaining other two. As I can (and will) do this regardless of what you’ve chosen, we’ve learned nothing to allow us to revise the odds on the shell under your finger.

The benefits of switching are readily proven by playing through the six games that exhaust all the possibilities. For the first three games, you choose #1 and “switch” each time, for the second three games, you choose #1 and “stay” each time, and the host always opens a loser.

Bertrand Russell: On Avoiding Foolish Opinions

We’d all like to avoid folly, wouldn’t we?

Avoiding stupidity is easier than seeking brilliance. And it doesn’t take a genius. Only a few simple ideas.

Philosopher Bertrand Russell (1872-1970) offers some advice, which will not keep us from all error but will help us navigate away from obvious error.

On Avoiding Foolish Opinions

Via The Basic Writings of Bertrand Russell:

If the matter is one that can be settled by observation, make the observation yourself. Aristotle could have avoided the mistake of thinking that women have fewer teeth than men, by the simple device of asking Mrs. Aristotle to keep her mouth open while he counted. He did not do so because he thought he knew. Thinking that you know when in fact you don’t is a fatal mistake, to which we are all prone. I believe myself that hedgehogs eat black beetles, because I have been told that they do; but if I were writing a book on the habits of hedgehogs, I should not commit myself until I had seen one enjoying this unappetizing diet. Aristotle, however, was less cautious. Ancient and medieval authors knew all about unicorns and salamanders; not one of them thought it necessary to avoid dogmatic statements about them because he had never seen one of them.

Many matters, however, are less easily brought to the test of experience. If, like most of mankind, you have passionate convictions on many such matters, there are ways in which you can make yourself aware of your own bias.

If an opinion contrary to your own makes you angry, that is a sign that you are subconsciously aware of having no good reason for thinking as you do. If some one maintains that two and two are five, or that Iceland is on the equator, you feel pity rather than anger, unless you know so little of arithmetic or geography that his opinion shakes your own contrary conviction. The most savage controversies are those about matters as to which there is no good evidence either way. Persecution is used in theology, not in arithmetic, because in arithmetic there is knowledge, but in theology there is only opinion. So whenever you find yourself getting angry about a difference of opinion, be on your guard; you will probably find, on examination, that your belief is going beyond what the evidence warrants.

A good way of ridding yourself of certain kinds of dogmatism is to become aware of opinions held in social circles different from your own. When I was young, I lived much outside my own country in France, Germany, Italy, and the United States. I found this very profitable in diminishing the intensity of insular prejudice. If you cannot travel, seek out people with whom you disagree, and read a newspaper belonging to a party that is not yours. If the people and the newspaper seem mad, perverse, and wicked, remind yourself that you seem so to them. In this opinion both parties may be right, but they cannot both be wrong. This reflection should generate a certain caution.

Becoming aware of foreign customs, however, does not always have a beneficial effect. In the seventeenth century, when the Manchus conquered China, it was the custom among the Chinese for the women to have small feet, and among the Manchus for the men to wear-pigtails. Instead of each dropping their own foolish custom, they each adopted the foolish custom of the other, and the Chinese continued to wear pigtails until they shook off the dominion of the Manchus in the revolution of 1911.

For those who have enough psychological imagination, it is a good plan to imagine an argument with a person having a different bias. This has one advantage, and only one, as compared with actual conversation with opponents; this one advantage is that the method is not subject to the same limitations of time or space. Mahatma Gandhi deplores railways and steamboats and machinery; he would like to undo the whole of the industrial revolution. You may never have an opportunity of actually meeting any one who holds this opinion, because in Western countries most people take the advantage of modern technique for granted. But if you want to make sure that you are right in agreeing with the prevailing opinion, you will find it a good plan to test the arguments that occur to you by considering what Gandhi might say in refutation of them. I have sometimes been led actually to change my mind as a result of this kind of imaginary dialogue, and, short of this, I have frequently found myself growing less dogmatic and cocksure through realizing the possible reasonableness of a hypothetical opponent.

Be very wary of opinions that flatter your self-esteem. Both men and women, nine times out of ten, are firmly convinced of the superior excellence of their own sex. There is abundant evidence on both sides. If you are a man, you can point out that most poets and men of science are male; if you are a woman, you can retort that so are most criminals. The question is inherently insoluble, but self esteem conceals this from most people. We are all, whatever part of the world we come from, persuaded that our own nation is superior to all others. Seeing that each nation has its characteristic merits and demerits, we adjust our standard of values so as to make out that the merits possessed by our nation are the really important ones, while its demerits are comparatively trivial. Here, again, the rational man will admit that the question is one to which there is no demonstrably right answer. It is more difficult to deal with the self esteem of man as man, because we cannot argue out the matter with some non-human mind. The only way I know of dealing with this general human conceit is to remind ourselves that man is a brief episode in the life of a small planet in a little corner of the universe, and that, for aught we know, other parts of the cosmos may contain beings as superior to ourselves as we are to jellyfish.

Still curious? Check out Bertrand Russell’s 10 Commandments of Teaching.

The Psychology of Pirates: How to Choose a Ransom

Reading The Invisible Hook really got me hooked on learning more about pirates.

How do pirates decide what ransom to ask for?

The answer, from an interview with an actual pirate, might surprise you. Despite what many think, they are very smart and intuitively grasp governance, incentives, and other aspects of human nature. This interview touches on incentives, reinforcement, moral hazard, and anchoring.

How do you pirates decide on what ransom to ask for?

Once you have a ship, it’s a win-win situation. We attack many ships everyday, but only a few are ever profitable. No one will come to the rescue of a third-world ship with an Indian or African crew, so we release them immediately. But if the ship is from Western country or with valuable cargo like oil, weapons or then its like winning a lottery jackpot. We begin asking a high price and then go down until we agree on a price.

How do you know a ship in far away coast in the first place and its flagship?

Often we know about a ship’s cargo, owners and port of origin before we even board it. That way we can price our demands based on its load. For those with very valuable cargo on board then we contact the media and publicize the capture and put pressure on the companies to negotiate for its release.

From what I’ve seen, initial demands tend to be about 10 times the previous publicized ransom, is this a rule of thumb?

We know that we won’t get our initial demands, but we use it as a starting point and negotiate downwards to our eventual target.  But as a rule, yes, that’s about right.

Does the length of a hijacking change the ransom that pirates are willing to accept?

Yes. Armed men are expensive as are the laborers, accountants, cooks and khat suppliers on land. During long negotiations our men get tired and we need to rotate them out three times a week. Add to that the risk from navies attacking us and we can be convinced to lower our demands.

 

What are the key factors to making a successful attack on a ship?

The key to our success is that we are willing to die, and the crews are not. Beyond that, in my case deploy a boat with six men to get close to the ship and leave another in reserve near the coast just in case we need backup. We use sophisticated equipment that allows us to spot our targets from a distance. We always have to be close to the main sea lane and keep in touch with each other using talkie phones.

 

How much does it cost to outfit a pirate mission?

A single mission with 12 armed men and boats costs a little over $30,000. But a successful investor has to dispatch at least three or four missions to get lucky once.

How are the pirates organized? (Are there pirate leaders, financiers, and specialists?)

The financiers are the most important since they organize and plan the big shot operations and are able to pay running cost[s]. Financiers always need to forge deals with traders, land cruiser owners, translators, business people to keep the supplies flowing during operations and manage the logistics.  There is a long supply chain involved in every hijacking.

 

Are there internal conflicts within the pirate gangs?

No. In piracy, everyones’ life depends on everyone else’s. There is some professional competition between groups, but we cooperate with information and logistics when it’s required. We won’t fight amongst ourselves as long as the money is paid as promised.  We have never had any conflicts within my group.

 

***

Still curious? The Invisible Hook looks at legendary pirate captains like Blackbeard, Black Bart Roberts, and Calico Jack Rackam, and shows how pirates’ search for plunder led them to pioneer remarkable and forward-thinking practices.