Donald Trump certainly isn’t afraid to call it like he sees it. Call it buffoonery or brutal honesty, it’s gotten the man more than his fair share of headlines. But his “hero” comments about Sen. John McCain earlier this month caught my attention.

It reminded me of a valuable economic lesson.

Several years ago, I was invited to lunch with Robert Novak (the infamously well-connected reporter who released the name of CIA agent Valerie Plame) and John McCain. It was an incredible conversation.

I walked away with two highlights. McCain told us he definitely wasn’t interested in the White House. (The poor choices he made during his subsequent presidential campaign confirmed his lack of interest.) More importantly, though, the famed veteran led me to a pivotal economic study called “Economic Organisation of a P.O.W. Camp.” It was written by Robert Radford in 1945.

As a former prisoner, Radford tells a fascinating tale… one that oddly mirrors our modern economy.

His essay weaves an incredible tale of how economies work. But what stands out most – and what is truly valuable for today’s investors – is his commentary on the camp’s “currency.”

In Radford’s camp, cigarettes were currency. Despite no shortage of actual German money, his fellow prisoners traded cigarettes. They used the enemy’s money only to pay off their gambling debts.

But the prisoners had no way to control the supply of their cigarettes. They couldn’t grow tobacco and they certainly weren’t allowed to go outside the prison to buy more.

They were entirely dependent on regular provisions from the Red Cross – a prison camp’s version of a central bank.

This fact led to huge swings in the supply of cigarettes.

Or, more aptly, it led to huge swings in the monetary supply – not unlike what we’re seeing across the world today.

For the prisoners, deflation was a major concern.

Due to the conditions of war, the Red Cross was often not able to deliver fresh cigarettes to the prison. When the supply was interrupted, the amount of money flowing through the camp literally went up in smoke. Add in a couple of nerve-wracking air raids nearby, and the supply plummeted.

Prisoners stashed the few cigarettes they could get their hands on.

With less money flowing through the camp’s economy, prices came down. Deflation took hold.

But then something peculiar happened. As the supply of cigarettes dwindled, prisoners pulled some of the tobacco from their machine-made cigarettes and started rolling their own. For a while, the lightweight cigarettes traded at the same price as the full-weight smokes.

But soon, the market caught on. Folks started hoarding the premium cigarettes and trading only the inferior product.

[iu-adbox]

Something known as Gresham’s law kicked in.

The law is simple… bad money drives out good money.

Very soon, it was virtually impossible to find the premium machine-rolled cigarettes within the camp. They were all stashed away, while the cheaper hand-rolled cigarettes were openly traded.

This idea teaches us that if two currencies have the same nominal value, but one is truly more valuable, the weaker currency will be traded, while the premium currency will be hoarded.

We’ve seen this with collectible coins. Coins with the same face value may trade for vastly different prices because of the metals contained within them.

But I argue Gresham’s law is now showing up across the globe in a different form.

The idea of good and bad money is taking a different shape. It’s not Gresham’s law in its truest form, but the underlying principal is the same. Artificial manipulation is creating waves in the economy.

It’s critical that investors are able to spot it.

The first example that comes to mind is America’s overzealous tax on foreign profits. To a company like Apple (Nasdaq: AAPL), money earned overseas is worth less than money earned at home because America’s electronics icon is forced to give Uncle Sam 35% of its foreign income.

Sticking with our cigarette theme, it’s like Apple earns a full cigarette… but gets only 65% of it when it brings it home.

The fact forces Apple to not repatriate its cash. Instead, the company hoards it… building a stash that’s now worth more than $150 billion in foreign cash.

That’s a lot of cigarettes.

Another recent example is the situation in Greece. The idea of switching back to the drachma or creating a new currency was virtually tossed off the table thanks to Gresham’s law. With so many euros already in the Greek economy, there was nothing to keep citizens from hoarding euros and spending the new currency… forcing its value even lower against the euro.

It would have stirred incredible headwinds for the already weak economy.

Our point here is not to lecture on Gresham’s law. It’s a complex idea with many variables. Instead, we want readers to understand that the essential laws of the economy are always in force… no matter the size or scope of the economy.

Whether it’s the eurozone or a prison camp, the rules are the same.

In other words, despite strong-arm tactics, it’s impossible to bend the rules of the economy. Understand them and you’ll make money. Break the rules and you’ll certainly be punished.

If you’re looking for a hero, read Radford’s pivotal work.

Good investing,

Andrew