How can we survive in a complex world with wolves at the gate? How can we see through the masquerades of others and avoid manipulation? By the end of this article you will understand one the most powerful concepts of critical thinking Nassim Talab’s SKIN IN THE GAME.
What Is 'Skin In The Game'?
“With it or on it”, are the words a Spartan mother would tell her son before he left for war. Meaning that he should return to her victorious with shield in hand, or as a fallen hero – a corpse on his shield. Only cowards throw away their shields to run faster from battle.
No Spartan mother would claim such a son. The ancients understood that a certain level of risk was necessary in life.
Hammurabi’s Law, carved into a piece of stone 3800 years ago and erected in a central public place in Babylon, states that:
“If a builder builds a house and the house collapses and causes the death of the
owner of the house—the builder shall be put to death.”
The ancients understood the importance of having skin in the game to avoid unlawful manipulation. Having ‘skin in the game’ implies that you carry some of the risk associated with the gains of your activity.
The Spartan has skin in the game because he risks his life for glory. The builder under Hammurabi’s Law also has skin in the game. Cutting corners could mean the cutting off of his head (you see what I did there).
Your Civil Engineering professor does not have skin in the game. He gets paid for talking and theorizing with PowerPoint slides rather than doing. Your skydiving jump instructor has skin in the game. If he doesn’t teach you the safety procedures properly you will both end up as pancakes. Your financial consultant has no skin in the game. If you go broke listening to his advice, he will not compensate you. He will just move on to another client.
The chef at the Italian restaurant down the street has major skin in the game. One food poisoning at his restaurant could end the family business and destroy his reputation.
When taking advice from someone make sure they have skin in the game. For their advice to be of merit they need to take on some of the risk. Ideally, they should be a practitioner not a theorizer. If they do not pass this test, be wary and do some extra research.
The Agency Problem
Imagine you have cancer, and your doctor gives you a choice between laser surgery and radiotherapy. The doctor’s success is evaluated based on a 5-year window after the treatment.
Statistically, laser surgery has worse 5-year outcomes than radiotherapy, so the doctor would recommend radiotherapy.
But there is a caveat.
Radiotherapy tends to create tumours over the long run reducing the 20-year-disease-specific survival rate. After the 5-year period is over you will be somebody else’s problem.
If the doctor was to advise the laser surgery and you were to die during operation (a low probability event), he would face career-ending lawsuits. It is in his best interest to suggest a less optimal procedure so he may avoid ruin.
When there is a conflict of interest between the principal and the agent, we have the agency problem.
Understand that humans are largely biased by incentives. Take for example the case of the Dead Sea Scrolls. When the first scrolls were discovered, archaeologists offered a reward per fragment to incentivise people to find more. People would then split the scrolls before turning them in.
To make things worse, years later people are going as far as artificially creating their own scrolls. Steve Green, the billionaire who purchased some scrolls allegedly worth $500 million, is likely more frustrated than the Bitcoin pizza guy.The guy bought a Papa John’s pizza with 10,000 bitcoins in 2010 all for some LOLs on a forum.
A pizza that cost him $90,000,000 given today’s bitcoin value.
Incentives run the game – a fact that’s blatantly obvious at the corporate level. Take YouTube which started off as a platform where independent creators could prosper and share their unfiltered messages. It’s now becoming cable TV 2.0, censoring content to appease its advertising overlords. It reminds me of powerful rich politicians and business moguls praising Moloch the Owl God at the Bohemian Grove during satanic rituals.
But that’s a story for another day.
Here is the key:
When someone gives you a piece of advice be wary if there is an incentive behind the recommendation.
The Lindy Effect Explained
Imagine that someone wants you to invest into a new business venture. Maybe it’s a killer app or computer software. This person has done the research and approaches you with profit projections derived from some complicated-looking mathematics.
What do you do? How do you know if you are being played?
The solution is to apply the Lindy Effect heuristic.
The Lindy Effect states that for things that are non-perishable such as technology, the passage of time is the greatest determinant of future survival.
Unfortunately your grandma is perishable since she is a human being (I’m sorry I shouldn’t assume her gender or species). Just because she has lived for 80 years does not mean she will live another 80 years. But shoes on the other hand have been worn by humans for 40,000 years with small changes mainly for comfort reasons. Those $250 Jordans you rock serve the same purpose as Jesus’ sandals. I’m willing to bet people will still be wearing some variation of shoes in 1000 years.
According to the Lindy Effect, a book that has been around for 50 years will likely be around for another 50 years. The 100-year-old family recipe which has been passed down by your mother will likely stay in your family for another 100 years. My mum showed me how to make these delicious African pancakes called Bunzis. Sometimes I make them at 4 a.m. You can bet your ass they are staying in the family tree.
Time = chaos.
Only robust concepts survive the tyranny of time. Things that are lacklustre disappear quickly. Going back to our business proposal, observe its merits through the Lindy Effect. Is it a similar concept that worked in the past and is still effective? Or is this another fad/get-rich-quick scheme.
How about diets and fitness?
How can we get stronger and healthier? Do we read 50 of the latest studies on exercise science and nutrition, and confuse ourselves with contradicting information from people with no skin in the game? Studies which are celebrated today but disproven in 5 years?
No, we just do a freaking deadlift – the same movement done by cavemen only with rocks. We eat a balanced diet filled with meat and vegetables. A concept that has shown results for thousands of years. Thank you, Lady Lindy.
So what have we learned?
- Those with skin in the game have real world expertise and are subject to risks.
- The agency problem is largely due to misaligned incentives.
- The Lindy Effect can help us determine a scam.
Use these tools and I promise you will be one step closer to living and dying well.