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TWoN: Sidebar–Confusion and hidden mechanisms

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One of the reasons the study of capitalism is so difficult (and, in some ways, so much fun) is that so many of the processes are hidden.  In, for example, a feudal economy, things are pretty straightforward: peasant grows crops, gives some to landlord, eats the rest and makes most of his goods at home and uses them himself.  Exchanges at the market are subsidiary to the basic flow of the economy, and not all that hard to understand (need iron to make a plow?   Give me ten bushels of corn.  Thanks.  Cheers).

A market economy by it’s nature hides a lot of its activity.  For example, the exchange value of a commodity is not realized until it reaches the market; therefore, it looks as if the value is created at the market, which leads to no end of confusion.  Lord Kyenes, for example, never was able to shake the notion that the market created value, and the economists who followed him are still stuck there.  The explosive power of TNT is created when the compound is formed, but not realized until it is detonated; to say that value is created at the market would be like saying that the explosive power of TNT is created by the explosion.

Smith’s ability to lay bare many of the processes of a market economy (the creation of value by labor, the effect of infrastructure on the realization of profit, money as a circulating commodity that eases production) may not have resulted in a full understanding of these processes, but showed that they could be understood, and pointed the way to understanding them.

The role of money–a commodity used for universal exchange–in a market economy is inherently difficult to understand.  I don’t blame myself terribly for having so much trouble with it in spite of lots of smart people trying to explain it to me; I think it is just the nature of the beast.  I started this project in order to understand rent, because I need to for a book I’m working on.  I may never understand rent, and I may never understand money; but the struggle to do so is amazingly gripping, and I want to thank all of you who have been helping me with it for your patience.

corwin

Author: corwin

Site administrative account, so probably Corwin, Felix or DD-B.

41 Comments

  1. Hmm. Okay, that makes sense. Yet it’s possible for labor to create something–an item of clothing, a car, an 8-track player–that when it reaches the market, has no immediate value; that is, none of the department stores will stock that plug-ugly shirt.

    So if that’s the case, is value still created by the labor that produced the shirt, even though no one can make money off it?

  2. It seems to me that you are conflating the *quality* of having value with the *quantity* of the value.

    If I make a car or a pair of socks, they have the quality of value, in that they are valuable to some degree. But at that point, they are only valuable to me, and in a non-quantifiable way. Their actual “market” value is an unknown and undecided quantity until I actually sell them to the highest bidder and see how much I can get for them.

    In that way, it’s a bit like quantum mechanics. You can’t know the state of something until you make an observation of it (e.g. Schrodinger’s Cat).

  3. Are you studying capitalism or economics (specifically, microeconomics)?

    Although the transfer of goods and services for value has existed for quite some time, feudalism is not capitalism. Capitalism replaced feudalism. And Marx predicted that socialism would replace capitalism and would be replaced by communism.

    I believe that the distinction in terminology is more than symantic. The “-isms” are socio-economic in nature, not purely economic.

    If you are trying to understand rent, I think you are well within the realm of microeconomics. Adam Smith was among the first to define economics as its own discipline, but between the language and the sociological/philosophical context of the time, which is so foreign to that of modern times, many who read him misunderstand what he is actually saying.

    David Ricardo is the economist most often cited for developing the theory of rent. You can get the full text of his writings on Google Books, but here is a site to Wikipedia

    http://en.wikipedia.org/wiki/Law_of_Rent

    At the end of the day, the price of rent is determined by the laws of supply and demand, so if you understand that, you’re kind of done.

  4. Turning to the more philosophical aspects of your post, you should consider reading Steve Keen’s “Debunking Economics,” if you haven’t done so already. You should also check out this post about his views on how money is really created in our economy:

    http://www.debtdeflation.com/blogs/2009/01/31/therovingcavaliersofcredit/

    FYI — I started studying economics about six months ago to better understand the current economy and how to invest my money. Having been trained as an electrical engineer, I quickly learned that economics is neither a science nor an applied science but an applied philosophy. Any time an economist runs into data that violates the assumptions of his model, he assumes that data away. A scientist or engineer would change his model.

    Keynes, as cynical as he was, was remarkable in that he looked for solutions that fit the problem that he was facing instead of ignoring salient features of the problem in order to simply apply his pre-existing notions of what the problem was. I would disagree that Keynes believed that the market created value. Rather, he believed that when there was a market failure that made monetary policy and tax policy ineffective as tools for encouraging consumption, the best tool was fiscal policy– i.e., the government spending of money– to spur consumption. Once consumption was back on track, the government could stop playing in the market and everything would work again.

    Unfortunately, Keynes inadvertently put the “con” in economics: his insights, which were focused on addressing a specific problem with clear boundary conditions, have been perverted by the neo-classical school of economics to encourage unwarranted happy talk in the hopes of duping less savvy consumers to over-extend themselves in tough times. Before Keynes, Say’s Law held sway, and everybody assumed that supply creates its own demand. And it usually does, just not always, which is why government intervention is sometimes required to demonstrate (and not just say) that everything is alright.

    All of this has led me to question whether a functioning economy is really just a shared delusion, whether the Great Depression and other market failures such as we find ourselves in currently are not irrational “manias and panics” but instead are moments of true lucidity. Nothing that we exchange for value has any intrinsic value, only the value that we agree upon. Markets break down only when the relative disparity in information between the parties to the exchange make it impossible for them to reach agreement, but that disparity– which represents risk– always exists and is usually ignored.

  5. Emma: Yes, I would say it has value–in the same way that TNT has explosive potential even if it is never ignited. It is also inarguable that labor can be wasted–by sloppiness, poor materials, &c. Creating an item with exchange-value but no use-value is one way to waste labor. But a commodity is an interchangeable item with exchange-value and use-value that was created for exchange; hence if the thing has no use-value, it is not a commodity.

    Scott: According to Smith (and Marx; Smith used different terms), the exchange value is that part which is quantifiable; it is the use-value that is a quality with no associated quantity. To take your example, if you were producing socks for exchange, you probably wouldn’t sell them for less than they cost to manufacture (or at least, not for very long). If you sold them above their value, I would at once go into business making the same socks and selling them for a lower price and drive you out of business. Hence, the exchange value exists even before it is realized at the market.

    Scott: I’ll be getting to Ricardo next. I am well aware that there is a non-trivial difference between a feudal economy (or a slave-based economy, or a primitive communist economy) and capitalism; it is the history of ground-rent through these forms (well, when they existed; primitive communist societies of course have no ground-rent) that I’m seeking to understand.

  6. Scott: Capitalist apologists need to believe that capitalism is “natural” and “permanent” rather than merely one phase in the ongoing process of Man creating arrangements to better satisfy his needs and wants. Hence, when shown that capitalism is only a temporary arrangement, they became very upset and try to deny the theories that explain why it is temporary, and, later, the data that support those theories. In extreme cases, they even claim that economics “cannot be understood, isn’t science,” in just that way that, a couple of hundred years ago, biology couldn’t be understood and wasn’t science. They don’t like the answers, so they deny the validity of the question. That method itself is unscientific.

  7. By the way, if you’re going to be trooping through the various classics of economics, you might want to lay your hands on the Michael Lewis-edited _The Real Price of Everything_, which gets you Smith, Ricardo, Keynes, Veblen and Malthus under one cover.

    The real question is: what are the odds that all commenters are named Scott?

  8. Soounds like you are marching through the development of economics from the beginning. I find myself jumping around a lot . . .

    Schumpeter and other argue that economics did not start with Adam Smith but with French Physiocrats such as Turgot. While I have a limited understanding of the Physiocratic approach, I believe it focused on land as the source of all value in the economy and may, therefore, provide some of the philosophical underpinnings of rent before the theory itself was developed.

    In his “History of Economic Analysis,” Schumpeter seems to agree with you about some of the hidden aspects of economies in explaining why the underlying theory of rent was not something with which the earliest economists concerned themselves:

    “Moreover, the rent of land and the wages of labor had not as yet become analytic problems to them. In the case of rent, this was perhaps due to the facts that, with farmers who tilled their own soil, the element of rent does not readily display its distinctive character, and that rents paid to landlords were in the times of the doctors so mixed with dues of a different nature that the economic rent, which was moreover traditionally fixed, did not show up very distinctly even in this case.”

    This observation dovetails with Schumpeter’s “creative distruction” concept. As markets change, what is deemed valuable changes, and new metrics must be created to arrive at an objective valuation of competing commodities.

  9. I don’t like the TNT analogy because TNT can be detonated anywhere and at any time.

    However, the market is the only context in which certain transactions can occur at all, and makes other transactions easier. So I think the market really does add value in the sense of enabling the transactions to take place, even if the primary value is created elsewhere.

    So let’s say, to take the analogy way too far, that the market is like a TNT detonator. Sure, you can explode TNT without a detonator, but it’s not easy, and it’s also neither safe nor reliable.

  10. I think I like your analogy, Miramon. At least tentatively, until I see if it explodes.

  11. I’m thinking rent includes the negative value of not being homeless.

    It’s unlike other socially-accepted necessities because the thing provided, the land or apartment, is not used up, as medicine or food would be. It has little aspect of service: unlike education or health care, all the landlord has to do is hand you the keys.

    There are costs to the landlord of maintenance, but they’re covered in the rent. You could argue that the land or the house becomes the machine that creates the product, a place to live or work for a fixed period of time.

    Hmm. Are there any good books on mafia economics? Because landlords use the state to create conditions where people must pay rent.

    Huh. This may be the most radical post I’ve ever made.

  12. Will: Ground-rent in this usage mostly refers to farm land where the land is owned by someone who does not work it, so the issue of homelessness doesn’t directly apply; although you make some interesting points for another discussion .

  13. Where do the farmers live? And is “ground-rent” a percentage of the crop, or a fixed fee?

    Yes, I know nothing about the subject, but I still have opinions. *g*

  14. Re: mafianomics

    Sudhir Venkatesh did a very good study of drug dealers in _Gang Leader for a Day

    The novel _Shantaram_ has some good sections on the structure and function of businesses run by the Bombay mafia, and is generally a really great book

    Someone at some time must have done an analysis of Al Capone’s accounting records captured by the FBI. If they haven’t, that would make a heck of a dissertation subject.

  15. Will: They usually had their own cottages. This is still the case in many countries where they “haven’t solved the land problem.” The rent for the cottage may or may not be included in the ground-rent. “Ground-rent” refers to rent for the right to use a piece of ground–usually to farm–as opposed to rent for use of a building.

  16. Scott, I think I read about Venkatesh in Freaconomics. I should track that down. And thanks for the Shantaram suggestion. Sounds very interesting!

    Steve, I suppose the cottages could be considered an incidental expense, then, if their value isn’t significant–they’re an improvement like the cost of clearing the ground, I s’pose. I’ll prob’ly follow without commenting for a while now.

  17. Scott: Doing a google for “al capone” “acccounting records” yields Money Laundering by John Madinger, a fair amount of which is readable through Google Books.

  18. Ah, rent.

    If I have capital of any sort, I can rent its usage or employ it myself. No matter whether it’s my land, my machine, or my labor, I can rent it or use it to create value myself. Of course, labor becomes labor, either way, but the question of where the potential surplus labor goes comes into the discussion.

    Rent is probably the most primitive relation in capitalism, like the horseshoe crab in the ocean. Extended, it even covers the concept of rentier capitalism and colonialism/post-colonialism. I’m probably missing something here as I think I do undesratnd rent. Which aspect of that relation is troublesome?

    Schumpeter’s _Capitalism, Socialism and democracy_ is a brilliant book, and written at a time when, and by a social scientist who believed that, the question of whethetr capitalism was going to outlive the Soviet Union was an open question. For a (relatively) contemporary discussion, one could look to Charles Lindblom’s _Politics and Markets_.

  19. A footnote from Engels’ book on the family that’s entirely tangential, but I love it: “During a few days spent in Ireland, I realized afresh to what an extent the country people still live in the conceptions of the gentile period. The landed proprietor, whose tenant the peasant is, is still regarded by the latter as a kind of chief of the clan whose duty it is to manage the land in the interests of all, while the peasant pays tribute in the form of rent, but has a claim upon him for assistance in times of necessity. Similarly, everyone who is well-off is considered under an obligation to assist his poorer neighbours when they fall on hard times. Such help is not charity; it is what the poorer member of the clan is entitled to receive from the wealthier member or the chief. One can understand the complaints of the political economists and jurists about the impossibility of making the Irish peasant grasp the idea of modern bourgeois property; the Irishman simply cannot get it into his head that there can be property with rights but no duties.” (Italics mine.)

  20. I remember reading that, Will, and thinking about the general rule that economic and societal forms–even slavery–are at their kindest when they first appear.

  21. Go thou and read.

    Cows, Pigs, Wars, and Witches: The Riddles of Culture by Marvin Harris

    Anything of his is a good read. Honest!

    http://en.wikipedia.org/wiki/Marvin_Harris

  22. I think what can be confusing is that many people think “value” is intrinsic. That something created or a job done is worth “X.” Value changes with context. Value requires a valuer and therefore changes from person to person. More later I think. maybe….

  23. There are two kinds of value: the value to me, and the market value. If the value to me exceeds the market value and I don’t own it, I’ll buy it. If the market value exceeds the value to me and I do own it, I’ll sell it. (Yes, that’s severe oversimplification.)

    The existence of the market increases the total value: if I had to make my own clothing, I’d have very lousy clothing. Because there’s a market, I can trade my labor doing other stuff (that I’m good at) with people who trade with people who . . . and eventually, I get to buy much better clothing than I could make at a much lower cost in time and bloodshed.

    X is a very good farmer, and a lousy clothing-maker: he grows enough food in 10 hours a week, but must spend 50 hours a week making clothing. Y is a very good clothing-maker, and a lousy farmer: he makes enough clothing in 10 hours a week, but must spend 50 hours a week growing food. Without a market, they’re both working 60 hours a week. With a market, they’re both working 20 hours a week, with X trading Y half the food he grows for half the clothing Y makes.

    I don’t understand “use value”. If I want to own something, is the mere ownership “use”? Is the use value of an autographed book greater than the market value? So is the labor of autographing a book therefore “wasted”? But it provides benefit to the owner (at least, the owner thinks so, which is why he went to the effort to get it autographed; and who gets to determine what is to a person’s advantage, if not that person?).

    Reading this thread has made me realize something about political/economic/etc. systems:

    1. State your goal. Ideally, this is a single-valued function (e.g. “Maximize the total happiness of all humans”.) It could also be a lot more complex (“X is bad; every instance of X costs 10 points. Y is good; every instance of Y adds 7.3 points the first time it happens to a person, and 4.1 points every subsequent time for the same person.”) You might not be able to make it single-valued, in which case there are some outcomes that can’t be compared (neither is better than the other, nor are they of equal value: (A and B are incomparable, C is better than B, but A and C are also incomparable.))

    2. Specify your assumptions about human nature and human behavior. You do not need to assume that all humans are the same; in fact, that seems like a very incorrect assumption. You may specify what percentage of people act according to what sets of priorities. The more reasonable another person finds those assumptions, the more convincing your argument can be.

    3. Having first done those two, you may now suggest a political/economic system. It will be possible (sort of) to evaluate that system and predict how well it will perform at achieving your goals in (1), given that people act according to (2). It is also possible to suggest a change in some system, determine its effect on people’s actions (by (2)), and therefore its effect on achieving the goal in (1).

    If you try to claim that a system is good (best, or better than another) without having specified (1) and (2), then I don’t see how there can be any meaning to your claim.

    For some value systems (which I don’t agree with) and some assumptions about human behavior (which I consider reasonable), I believe that pure Capitalism is the optimal system. Part of what I believe about human behavior is that people vary in degrees of self-interest and altruism. Someone who is very self-interested might agree with the values I mentioned. The more altruistic, the less agreement (I believe). I also believe that most people will more or less agree on the spectrum of behavior, and that most people aren’t at extremes.

  24. Seth: Use value is simply what it is used for. It is, by definition, not quantifiable (with one exception, of course). If you want to buy an autographed book because it is the perfect size to level your washing machine, then that is it’s use-value. An autographed book, of course, is a poor example because, generally, it is not a commodity by the strict definition.

    My goal: To improve my understanding of economics in general and market economies in particular.

    Assumptions about human nature: For there to be human nature, there must be humans. For there to be humans, humans must eat and multiply. In order to multiply, given that humans are born immature, the young must be protected. In order to protect the young, humans band together, creating societies.

    I appreciate the permission to suggest a political/economic system. However, I’ll decline. It seems profoundly unscientific to speak of political and economic systems in a vacuum, without the entire history of society leading up to that point, as if there were a “right” or “wrong” way to organize an economy outside of historical development. What I *am* doing attempting to understand that historical development.

    I will say that it seems incorrect to me to speak “selfishness” and “altruism” as if they were some sort of fixed, quantifiable property apart from a given culture at a given time. What we call selfishness or altruism has elements of biology, education, and mood of the moment; but above all it is conditioned by society. Since every new economic form completely revamps it’s culture, to base one’s ideas of economic forms on perceptions of selfishness is like picking out a refrigerator based on what kind of leftovers you have.

  25. Shouldn’t that be “use value is the value of what it is used for”? That seems to make more sense; then the use value of a book is the value of the pleasure I get from (reading and owning) it (and maybe throwing it against a wall or dropping it on the author’s foot, etc.) Then the autograph does have use value: it increases the pleasure of ownership.

    You’ve stated that you prefer certain political/economic systems over others. Certainly your preferred systems aren’t the ones best designed to increase your understanding of economics and market economies.

    Your given assumptions about human nature aren’t strong enough to use in deciding among political/economic systems (for the most part).

    I specifically avoided ideas like “right” and “wrong” in favor of the concept of maximizing the value of some function (which ought to be specified if we’re going to talk about maximizing it). For instance, if your goal is “minimize human suffering” then one optimal solution is “blow the planet up. No humans, no human suffering.” I think that’s a bad goal, but I’m willing to discuss how well a given system accomplishes it.

    I was using “selfishness” and “altruism” as examples of types of human behavior, on a spectrum along which people vary. There are many others.

    My basic thesis is that any particular political/economic system, as it exists (or is proposed to exist) at any given time in any particular society, provides various incentives to the individual members of that society. Those incentives will cause different people to act in different ways; that will, in turn affect the incentives seen by people, affecting further actions, etc. The result of all this cause and effect should be measured by the utility function you desire to maximize, so that it becomes possible to compare systems.

    If your goal is to understand history, the most important rule I can think of (and it took me many years to come up with it): “It’s all people doing stuff.” As to why they did it, the First Law of Animal Behavior applies to people as well. (“Under the most carefully controlled experimental conditions, animals do as they damned well please.”) “It seemed like a good idea at the time” or “They wanted to” (for a value of “want” that includes, e.g., the effects of coercion).

  26. ‘Shouldn’t that be “use value is the value of what it is used for”?’ That sounds meaningless to me; but I won’t stop you. The reason it is important to the definition of a commodity is that, if it has no use, no one will pay it’s exchange value. Sticking an extra value into the definition does nothing.

    “Your given assumptions about human nature aren’t strong enough to use in deciding among political/economic systems (for the most part).”

    Here we have a splendid example of the subjective idealist method in action. We are to accept the existence of something called, “human nature,” and then we are to decide what it consists of, and then we are to “decide” what political and economic system is “best” based on all of this. What has any of this to do with science? Political and economic systems form according to their own laws, and the laws of human development. To discover those laws, and to make predictions, and even to use those laws to work for definite aims is one thing; to start with abstract concepts of “good” and “bad” (as if these concepts came from anywhere but society) is nonsense.

    ‘”If your goal is to understand history, the most important rule I can think of (and it took me many years to come up with it): “It’s all people doing stuff.”’

    This is as profound as stating that atomic energy is atoms doing stuff. This is actually fine if your goal is to get a chuckle from friends; it is less useful if your goal is turning nuclear power into a reliable energy source.

    There are laws of history as surely as there are laws of atomic motion; that these laws are more difficult to discover does not mean they don’t exist. If you believe that it is possible to work toward shaping society without any effort to understand those laws, I’m not in favor of letting you anywhere near a nuclear reactor.

  27. This book is used for me getting enjoyment by reading it. That doesn’t give a value. The enjoyment itself provides value to me; isn’t that the use value of the book?

    This other book is used to level a table. A level table is not a value; it has value.

    That’s why I put the second “value” in the statement.

    We are to accept the existence of something called, “human nature,”

    Or, if you prefer, the way people act in various circumstances. For any given person (as he exists at a given time), and any given circumstances, that person will act in some particular way. The mapping from people and circumstances to actions is what I call “human nature”.

    Political and economic systems form according to their own laws, and the laws of human development.

    What are those “laws of human development” if not “human nature”? (Though I prefer to see people as acting rather than developing, since actions are observable and it isn’t clear what developing involves.)

    To discover those laws, and to make predictions, and even to use those laws to work for definite aims is one thing; to start with abstract concepts of “good” and “bad” (as if these concepts came from anywhere but society) is nonsense.

    I don’t get the distinction between “work for definite aims” and defining those aims as “good”.

    I have seen attempts to explain history in ways that don’t depend on individual choices and actions. They fail. If you start with all the individual choices and actions of people, they add up to (and explain) the broad sweep of history. If you start with the broad sweep of history, you might be able to derive some of the individual choices and actions; but there’s no explanatory value.

    “Laws of history” are, rather, rules of individual psychology interacting. I am an individual; I make choices, and perform actions. The results of those actions affect other people’s observations, and their choices and actions. The end result of all those (especially including feedback loops) is “history”. I don’t believe that attempting to discover, understand, and “prove” laws of history without use of the underlying individual choice factors is a useful or likely-to-be-successful method.

    If you try to design a nuclear reactor (or bomb) without starting by understanding how individual atoms act, I don’t think you’re going to be very successful. On the other hand, given the behavior of atoms (spontaneous fission occurs with frequency X, emitting this stuff; stuff hitting another atom depends on the cross-section, and causes Y with probability P, etc.; given all those, I can calculate critical mass, etc.)

  28. ‘ What are those “laws of human development” if not “human nature”? (Though I prefer to see people as acting rather than developing, since actions are observable and it isn’t clear what developing involves.)’

    You’re right, “laws of human development” is a clumsy and misleading way to put it. Laws of history would be more precise.

    “I am an individual; I make choices, and perform actions.”

    Yes, you do. You can make any choice available to someone in your particular material circumstances, and with the philosophical method that leads you to interpret information in the particular way that you do. And the more you imagine yourself to be uninfluenced by anything, the less free your choices are. Whereas the more the recognize that you, like everyone else, are a product of a particular society under a given set of circumstances, the more your choices will be guided by an accurate understanding of your world, and hence, the more free you will be.

    ‘I don’t get the distinction between “work for definite aims” and defining those aims as “good”.’ Um…okay. Now that is truly scary.

    The combined total of all individual choices and actions is history. That, however, is like saying the combined movement of all subatomic particles is nuclear physics. It doesn’t explain under what circumstances a dual power regime emerges and what one can expect from it, or under what circumstances the law of combined development will apply and what conditions that will create, or what is required in a revolutionary situation for the progressive class to maintain state power. And without understanding these things, we are controlled by history, rather than giving ourselves the possibly of controlling it. And the more we insist we are nothing more than individuals making individual choices with perfect freedom, the more we are enslaved by our circumstances.

    Hence my desire to understand the economics of ground-rent.

  29. Steve,

    You say you began this read to understand the economics of rent. What is it about rent that you don’t understand? I’m not being flippant, just curious.

    Regards,

    Ethan

  30. We know (from Smith, Ricardo, &c) where the value of a commodity comes from: the labor necessary to it’s production. Where does the value of ground rent come from?

  31. My simple take on it is this.

    The value of ground rent comes from the opportunity cost of the land’s owner not selling the land at a value perceived by a potential buyer.

    I haven’t read previous postings in great detail so this may have already been discussed and re-butted.

  32. Hi Steve,

    Hmmm, I don’ think that’s right, but I concede that it’s a very common idea. This goes back to what I was saying abot value not being intrinsic. I think a fail to understand value can lead to all sorts of confusing ideas! 🙂

    Suppose a person is working for a company manufacturing a product that no one wants, or that is over-produced. Lets say only half of the prodcued amount sells. What is the value created? The worker prodcued 20 items, and was paid for his work. The company sold 10 items and had to scrap the rest. Is the value created based on the labor to make 20 or the 10 you could sell? Does the labor create the value or does the desireability of the product drive the value?

    Ethan

  33. Ethan: If no one wants it, it is, by definition, not a commodity. Over-production and under-production happen all the time, and are one of the things that cause fluctuations in price. What does the price fluctuate around? The value. Whence comes the value? The labor necessary for it’s production.

    Please note the word *necessary* in that definition. Not the labor *used*. If it takes you twice as much labor to produce something as the guy next to you, you cannot, in the market, charge twice as much for it.

    In your example, only part of the value of *realized*; that does not mean there is no value. Note my TNT analogy in the original post.

  34. Hi Steve,

    The value, even your comment above seems to show, comes from the “market.” The market being people who want to buy something. What they are and are not willing to buy drives the value as well as availability.

    The TNT in your example has potential force, but it is only realized when it is exploded. It will explode with the force of the amount of explosive that reacts. Whether people want it to make a bigger or smaller explosion doesn’t matter. Even if everyone in the world wanted it to make a tiny explosion, it would only explode with the force based on it’s composition.

    The value of an object is based on what people are willing to pay for it. It’s the value they perceive it to have. The object has no value no matter how little or how much labor went into it. It only has value to someone. People value things differently. You put enough people together and you have a market with statistics.

  35. If producing something costs more than people are willing to pay, no one will produce it. If it costs significantly less, and you try to sell it for more, someone will undercut you. Or, if I may respectfully indulge in sarcasm: How fortunate for us all that people happen to be willing to pay more than it costs to produce things; if not for that miracle, commodity exchange could not take place.

  36. Thanks for your reply. I’ll reply later when I have a moment!

  37. Hi Steve,

    Thanks for your reply. I’m enjoying our conversation!

    You said: “Whence comes the value? The labor necessary for it’s production.”

    I still think this is backwards. The value must come from people’s desire for something. You can still have items that you can produce at any cost that people just don’t want, and therefore do they have no value or are they just full of “potential” value that hasn’t been realized.

    Value is entirely derived from the desire of individuals that make up the market. Look at the cost of some of these designer sneakers. They sell for way more than they cost to make, yet they are desireable to some who want the image they see associated with them. There may be are more reasonabley priced items that cost the same to make, functions the same (or better,)but they are not desired by the market as much for no reason other than perceived image. If the labor creates the value then how do you account for the disconnect here?

    Suppose you are walking along a river out west and you see something shiny in the water. You bend down and discover a large gold nugget weighing several ounces. This has a large value . It cost you no labor to garner it other than bending over and picking it up while enjoying your vacation hike. Where does the value of this come from?

  38. “The value must come from people’s desire for something” People want things to different degrees. My passion for a sliced cucumber with vinegar is much greater that of someone who might think, “Oh, if I’m making a salad, I’ll put some cucumber in it.” And yet, the grocery store sells the cucumber for the same price to both of us. Why is that, do you suppose? And since it’s price is not determined by how much we value it–as we value it at different amounts–what DOES determine the price?

    “Value is entirely derived from the desire of individuals that make up the market. Look at the cost of some of these designer sneakers.”

    There is no reason that in isolated cases an artificially increased price cannot exist for a given commodity for a greater or lesser amount of time because of advertising, trends, moods, and so on.

    Smith answered your comment on finding precious metals in one of the earlier chapters I discussed, but, briefly, the value of precious metals is set by the world-wide average labor cost of finding, extracting, and refining the ore. (It is interesting to note that this was world-wide even in Smith’s day; he spends a fair bit of time discussing how the discovery of a new easier vein to mine in one part of the world will change the price of gold everywhere.)

    And you have not responded to my observation that (without the sarcasm this time) any time the supposed value created by the market were less than the production cost, the commodity could not be produced.

  39. Would not the value of the land follow the same rule as that of precious metals as described by Smith? The cost of finding it and putting it to use? Any subsequent rent would include these previous labor costs as well as those necessary to procure the renter such as maintenance, advertising, and even protecting the land.

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  41. This is old, but since it showed up I’d like to discuss it.

    “And since its price is not determined by how much we value it–as we value it at different amounts–what DOES determine the price?”

    Price is determined by each individual seller.

    You go to the grocery store and the cucumbers are marked at $2.00 each. That’s more than you want to pay. You check your smartphone and find there is another grocery store that sells them for 75 cents each. But you don’t want to drive that far to save $1.25. You go home without a cucumber.

    Or maybe you want a cucumber for a salad, and a big advance just came in. Maybe you tell yourself “I feel rich today!” and you buy a $2 cucumber for your salad.

    Maybe your tax advisor has said something worrisome has come up and there’s no telling how much it will cost. You feel uncertain and poor. You really want a sliced cucumber with vinegar, you want it bad, but you feel too poor to have it.

    The produce manager at the store notices that the cucumbers aren’t selling. Soon they will go bad and he’ll have to throw them out. Maybe he puts them on sale for 50 cents each and advertises the sale. Maybe he decides to tell his supplier he won’t take as many next time, and keeps the regular price the same. Maybe both.

    When there are a whole lot of sellers and a whole lot of buyers, and they can easily make public deals, that’s a market. The buyers who’re most eager to buy and the sellers who’re most eager to sell work out some kind of deal. That sets the price. Anybody who isn’t willing to buy or sell at that price has to wait, because the sellers won’t sell at a lower price while there are still buyers at that price, and vice versa. The theory is just like that for chemical equilibrium.

    That theory works well when there are a whole lot of sellers and a whole lot of buyers, and the buyers are pretty much interchangeable and the sellers are interchangeable and the products are interchangeable and nobody is trying to manipulate the market. Which is to say, seldom. It’s much more reliable for chemicals when there are moles of product and moles of reactants.

    Commodity markets are in theory designed to work that way. They work hard to create interchangeable products. So for example, there is a wheat interchange in New Orleans that standardizes wheat for the international market. Machines sample a railroad car of wheat, and if the quality is too high, they mix in just enough bad wheat to bring the quality down to standard. It is easier to sell standard lots than to track nonstandard lots.

    In practice, real markets are usually manipulated by a market maker. This is someone who has a pile of money and a pile of product. Buyers and sellers tend to show up at somewhat random times. Apart from things that happen for reasons, their arrival will tend to follow an exponential distribution. That means that occasionally there are a lot of sellers and few buyers, or vice versa. If nobody did anything about that, prices would rise and fall at random, quickly. The market maker evens that out. When there are more buyers, he sells product at a higher price. When there are more sellers, he buys at a lower price. He usually makes money on the deal, and often it adds up to quite a lot of money. The price changes less than it would if only random buyers and sellers showed up. Some economists argue that he is providing a public service by stabilizing price.

    But there is a chance that what he thinks is a random fluctuation is really an unexpected change in supply or especially demand. Then he can lose big.

    In many real markets, price is not set by supply and demand. Price is set by what the market maker thinks supply and demand will be.

    But the market maker is not the only one who tries to guess what supply and demand will be. Anyone who has money or product can gamble on that. If you think the price will go up, you can buy product to sell later. If you have product and you think the price will go down, you can sell now and — if you want — buy later when you think the price is low and will go back up.

    When this is mostly done by producers or large consumers who have a clear idea what to expect from production etc, it makes sense. But markets are often designed to let *anybody* play. If you think the price will go down but you don’t happen to own the product to sell, you can sell short. People play complicated games with all this.

    The result is that sometimes prices are not set by supply and demand at all. They are set by what gamblers predict that other gamblers will make supply and demand be.

    Sometimes the gamblers can create self-fulfilling prophecies and make prices change the way they want. Other times they have epic battles with each other and nobody can predict the wide price swings.

    When that happens, actual producers and consumers are faced with utterly unpredictable prices, that are created by the market structure. Then prices are set by gamblers, some of them will win and others will lose. The winners will be considered geniuses and the losers idiots. And the actual market which was supposed to assist real buyers and sellers does not help them much at all.

    Chemical reactions approach equilibrium (sometimes fast, sometimes slow). It is because the chemicals do not change their behavior based on what the other chemicals are doing. Markets may not approach any equilibrium at all. They are more like predator-prey interactions, which usually approach some sort of limit cycle. But if human beings can predict a market cycle, then they will try to make money off of it which will disrupt it in unpredictable ways….

    I want to note that the same naive amateur economists who say that socialist systems cannot succeed because they can never adequately predict supply and demand, want to say that this market approach is guaranteed to accurately predict supply and demand, and that prices will tell suppliers how much to produce and consumers how much to buy. On average, in the long run, it kind of works.

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