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Game Theory and the Dark Side of Envy

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Von Neumann, Morgenstern, and the Creation of Game Theory
by Robert Leonard, Cambridge: Cambridge University Press, (2010); 390 pages.

Economist Oskar Morgenstern is best known as the co-developer, with mathematician John von Neumann, of game theory. Game theory emerged out of curiosities about logic and strategies of games such as chess, where each player must take into consideration the plans and possible moves of an opponent if he is to have any success in winning the game. The study of those curiosities culminated in the 1944 publication of Morgenstern’s and von Neumann’s book, The Theory of Games and Economic Behavior.

Game theory has been applied to the planning of military strategy, as well as to attempting to design or anticipate competitive moves by rivals in the marketplace. Its most famous construction is what is called “the prisoner’s dilemma,” in which each of two suspected criminals is offered, separately, a lower sentence if he confesses and “rats out” the other first. Neither could be convicted if each of them kept his mouth shut, but since neither one can be sure that the other won’t take the deal, they both end up confessing.

It has also been used to explain the logic of cooperative behavior in the marketplace of exchange. In his 1984 book The Evolution of Cooperation, for example, Robert Axelrod, explained that when people participate in or anticipate multiple trading opportunities with others, there emerge incentives to neither cheat nor deceive. Game theory experiments showed that most people implicitly operate in terms of a psychology of “tit for tat.” That is, each trader will be honest and reliable in his dealings as long as his trading partner acts the same way. If “Sam” cheats or is in any way dishonest, then “Bob” will “retaliate” in kind. But if “Sam” learns his lesson and starts acting honestly again, then “Bob” will reciprocate, and mutually beneficial and honest trade will be restored.

The logic is that when persons realize that there are long-run gains from “repeat business” with the same trading partners, it becomes costly to try to obtain short-run gains by acting dishonestly against them. Thus, in the long run, market interactions reinforce and teach the value of honest behavior and good manners.

Robert Leonard’s book, Von Neumann, Morgenstern, and the Creation of Game Theory, is an outstanding example of scholarship, matched by an easy flowing writing style that explains often difficult and complex mathematical and logical problems that led up to the development of game theory. It is told in terms of the separate biographies of von Neumann and Morgenstern who, in fact, had virtually no contact with each other until they were both at Princeton University starting in the late 1930s.

But what I would like to focus on in the remainder of this review is the evolution of Oskar Morgenstern’s ideas, because what is less well known is that Morgenstern was a prominent member of the Austrian school of economics before the Second World War. His first book was Economic Forecasting (1928), which unfortunately has never been translated into English. He presented a biting and insightful analysis of why quantitative models would never be able to successfully predict the economic future. His three fundamental arguments were (1) that historical events are unique and too interdependently complex to be reducible to statistical probability analysis; (2) that any public forecast easily will result in people’s taking the forecast into consideration, and therefore acting in ways different from what the forecast presumed; and (3) that how people act is dependent on their expectations of how they expect others to act, and understanding and interpreting people’s subjective meanings and intentions is not readily reducible to strictly quantitative categories and classifications for statistical study.

Leonard traces the development of Morgenstern’s thinking in the 1920s and 1930s under the influence of such Austrian economists as Ludwig von Mises and Hans Mayer and his friendship with Karl Menger Jr., the son of the founder of the Austrian School. But what he also brings out is that Morgenstern increasingly turned against his “Austrian” roots, ridiculing in print Mises’s views on economic theory and policy and telling his various economist friends that he considered F.A. Hayek’s work on money and business cycles — the contributions that resulted in Hayek’s being awarded the Nobel Prize in economics in 1974 — to be worthless!

Even worse, after 1934, with Hayek now a professor at the London School of Economics, and Mises teaching in Geneva, Switzerland, Morgenstern attempted to portray himself as the “leader” of the Austrian school in an Austria that had become a fascist-type authoritarian dictatorship. He worked as a senior advisor to the Austrian government, often offering policy advice rather far from a free-market perspective. And in his 1934 book, The Limits of Economic Policy, he expressed impatience with democratic government compared with an authoritarian system. (When the book appeared in English in 1937, he deleted its anti-democratic passages.)

In addition, Leonard points out that Morgenstern’s diary from that period is sprinkled with often heavily anti-Semitic sentiments, in spite of the fact that many of the members of the Austrian school at that time were Jewish and had been encouraging and supportive of his own work and professional advancement.

Finally, while during his lifetime Morgenstern was hailed as the co-developer of game theory, Leonard makes it clear that in fact virtually all of its theoretical formulations and strategy constructs in their 1944 book were the work of von Neumann (also of Jewish ancestry). Morgenstern’s contribution was mostly a couple of chapters showing the possible applications of game theory to economics. Leonard quotes Morgenstern’s diary that he often could barely keep up with von Neumann’s mathematical expositions.

I had the privilege of having Oskar Morgenstern as a professor at New York University just before his death in 1977. He was an excellent lecturer and very generous with his time to share his ideas and memories of the “old Vienna days” with someone interested in the history of the Austrian school. That is what made Leonard’s book so much of a shock. It shows an unflattering, dark side of a fascinating man who, at least during the earlier period between the two world wars, too frequently exhibited envy, arrogance, and prejudice.

This article originally appeared in the October 2011 edition of Freedom Daily. Subscribe to the print or email version of Freedom Daily.

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    Richard M. Ebeling is a professor of economics at Northwood University. He was formerly president of The Foundation for Economic Education (2003–2008), was the Ludwig von Mises Professor of Economics at Hillsdale College (1988–2003) in Hillsdale, Michigan, and served as vice president of academic affairs for The Future of Freedom Foundation (1989–2003).