Water in a simulation is real water in the simulation. It isn't the same as water 'out here'. Life in a simulation is real life. It just isn't the same as life 'out here'. The reason for this is because there are different rules for what we call matter here and what counts as matter 'there'. There are not different rules for actions because actions are always changes based on interactions of things. Folks in the simulation could (would) devise computers that simulate water -- make something look like water on a screen by lighting up the right pixels at the right time -- and then they would eventually create their own simulation like the one we are discussing where those actions are not just 'descriptions' but the simulation follows the same rules as 'reality'.
The 'stuff' in the simulation follows the rules of the simulation; which for our purposes are the same rules as 'here'. If you were part of the simulation you would say that what you see as alive is alive because it meets all the requirements and definitions of life. And you'd be right because that is what we mean when we use the word 'life'.
From our perspective here and now we can't tell if what we see is an action in the mind of God or energy or a computer simulation or whatever. We only describe the rules of interaction and say that something is alive if it meets the definition we set for life. We might be part of a computer simulation ourselves; the same thinking would apply.
It is only someone outside the frame who would say 'but that's not alive'. Fine if you want to say that, but you miss the entire point of the simulation as a reductio or a thought experiment. Imagine a being outside of our 'reality' saying -- silly humans thinking they are alive, ha, they're just a simulation. The worst you could say about someone within the simulation is that they just don't understand the nature of reality -- that their reality is actually just electrons whizzing around and not the world they see. But the same is just as easily true of us; we have no actual ground on which to tell someone within a simulation that their world is not 'real' unless we want to have the unmitigated temerity to suggest that we know Ultimate Reality.
Just as water is wet within the simulation, thinking is thinking within the simulation. If we could interact with the simulation we would see that their consciousness is the same as ours. 'Wet' depends on the rules of matter that obtain 'here', so wet doesn't translate between the two 'worlds' very easily. It could if we had technology beyond our capabilities -- so that each molecule in the simulation controlled something here so that it had the same characteristics and performed the same movements. Mental actions of all types should translate easily, though, since mental actions 'here' depend on movements of electrical charge in a way that is relatively close to the way electrons move around in a computer; so hooking up a means of interaction would simply seem more intuitive to us.
