One of the fathers of game theory, died together with his wife in a car accident last weekend. John Forbes Nash, aged 86, had just came back from Oslo where he collected the prestigious Abel Prize from the Norwegian Academy of Science and Letters for his mathematical work. Interestingly, 21 years ago now he also came back from Scandinavia with another prize. On that occasion he was awarded the Nobel Prize in Economics for his pioneering mathematical work in the 1950s. The prize recognized his work on the concepts of equilibrium in game theory.
His analyses in cooperative and non-cooperative games, known as the Nash Equilibrium, provide solutions to situations in which two or more parties interact to make decisions. His work have played since an essential role in the development of many branches of science, such as politics, biology, philosophy, computer science and of course economics.
“A set of strategies, in which no player acting alone can change your strategy to achieve a better outcome for himself,” is the definition devised by Nash equilibrium and has great importance in a situation where it does not exist trust between the parties, whatever its nature.
Coinffeine’s protocol allows decentralized exchange of bitcoins and has been developed based on Nash’ work and game theory as there is no trust between the parties and there is not a trusted third party. To exchange bitcoins and fiat money in Coinffeine both counterparties are matched automatically, without knowing who your counterparty is. This could have big risks if not for beautiful minds like Nash who have made this possible.
With the death of Nash, the world lost a genius. But fortunately his legacy will remain and the applications it may have, will be immortal.
In our first post we saw how useful game theory is for analyzing strategic situations, and in this second post of our series Understanding Coinffeine’s protocol we will return to game theory.
Mutual assured destruction
The next concept that interests us is mutual assured destruction, a concept closely related to the years of the Cold War. To get some atmosphere going, we can think of the cult film classic: Dr. Strangelove or: How I Learned to Stop Worrying and Love the Bomb where Peter Sellers plays a scientist who is actually a parody of our friend Von Neumann (or if you prefer film in color, watch WarGames).
In this game, which is the Cold War, we have two rational players, USA and the USSR, both with a high regard for their own survival. At that time nuclear power was already developed, and had sadly been used as a closing ceremony of the Second World War. Both powers had entered into an arms race which, if continued, could have ended with humanity on several occasions.
For years it seemed that nuclear war was about to happen anytime, but it never did. The answer to this is the fact that both players had the ability to respond to a nuclear attack, even if it was a last resort and losses would be dramatic on both sides. The advantage of being the first to attack was insignificant compared to the losses it would cause. And it justified the cost of always having intercontinental missiles ready, and nuclear submarines or planes circling the Arctic to be able to respond to an attack.
If we take stock of the possible outcomes in a table, we can see that the best answer to not attack is not attack, and in the event that the other player attacks it is indifferent what we do. Unlike the prisoner’s dilemma it is not enough to find the dominant solutions. In this case, we need the next best thing, a Nash equilibrium (and yes, there is a film about it).
These equilibrium situations occur when each player can not improve his situation by changing his strategy if the other player persists. In the game we have presented as an example, we find two equilibriums: (Not attack, Not attack) and (Attack, Attack).
A Nash equilibrium is a stable situation by definition and, therefore, in real life are often end up giving or aspire to these kind of results. However, not all equilibriums does necessarily happen. Given the consequences in this game, we get a happy ending (Not attack, Not attack), as happened for example during the Cuban Missile Crisis.
The lesson we can draw from this game is that you do not need a trusted third party if we have a mechanism that makes you lose more than you could win when the path of collaboration is left behind. This principle is very important to design a decentralized exchange protocol as Coinffeine, and to avoid aberrations such as “preventive wars”.
The game of “chicken”
The next ingredient we need to get familiar with is the concept of strategic moves. We will illustrate it with the game of “chicken” (Yes, you are right! Rebel Without a Cause is a representation of this game).
The term “chicken” is a metaphor in which two sides are locked in an escalating situation, where none have nothing to gain and where only pride prevents them from pulling out. It is represented as a race in which two vehicles deliberately are driving on a collision course. The first to swerve is a coward ( or a “chicken”) he loses pride and the other wins. If both swerve no one loses anything, whereas if both continue they will crash and die.
A quick glance at the table makes us realize that it does not exist a dominant strategy. If one of the drivers swerves, the best strategy for the other driver is to continue. However, if one of the drivers does not swerve, the best strategy for the other driver would be to swerve. As in the prisoner’s dilemma, this type of situations are common in the realworld.
A strategic move is to modify the game to change the outcome and to change the balance. This would happen if driver 1 rips off the steering wheel, and throws it out of the window so the other driver realizes that his choices have been reduced dramatically.
As a result we have a new game where there is a dominant strategy for driver 2: Swerve is the only option, as death (-∞) awaits him if he continues.
We can say that by restricting the options, “rip off the steering wheel”, we make the threat of staying on the collision course even more credible, and it changes the rules of the game. The strategic moves are terribly useful, because we can use it to design games where collaboration is the dominant path. However, I do not recommend you to do this at home… you could see the steering wheel of the other driver go out of the window as well…
In the next post we will present the Coinffeine protocol as a game, applying all these concepts.