paradox blue


August 12, 2022

The value paradox (also known as the diamond-water paradox) is the clear contradiction that although water is more useful for survival than diamonds, diamonds have a higher price in the market. The philosopher Adam Smith is often credited with the classic originator of this paradox. Nicolaus Copernicus, John Locke, John Law and others have previously tried to explain this gap.

Labor value theory

In Adam Smith's An Inquiry into the Nature and Causes of the Wealth of Nations, he explains the concepts of use value and exchange value, and explains the difference: I will explain what rules humans naturally obey when exchanging [goods] for money or other [goods]. These regulations determine what is called the relative value or exchange value of goods. The word VALUE has two different meanings, and sometimes describes the use of an object, and sometimes describes the purchasing power of another thing that belongs to the possession of that thing. The first explanation can be called "use value"; one more "exchange rate". The things that have the greatest use value have little or no exchange value; on the other hand, the things that have the greatest exchange value have little or no use value. Nothing is more useful than water: but water cannot buy everything; nothing can be exchanged for water. Diamonds, on the other hand, have no use value; but many other things could be exchanged for it. He went on to explain that exchange rates are determined by hard work: The true value of anything, what people really want to sacrifice in order to get it, is the hard work and difficulty of obtaining it. Smith, however, rejected the relationship between price and utility. Price in his view is related to the factors of production (mainly labor) and not from the consumer's point of view. Supporters of the labor theory of value consider this a solution to the value paradox. The labor theory of value has fallen out of favor in mainstream economics and has been replaced by the theory of marginal utility.


The theory of marginal utility which is based on the theory of subjective value states that the price of an object traded in the market is not determined by how much labor is involved in the production process (as in labor theory of value) nor how useful the goods are as a whole (total utility). Rather, its price is determined by its marginal utility. The marginal utility of a good derives from its most important benefit to a person. So, if the person owns an item, he will use it to satisfy his need or desire, which has the highest priority. Eugen von Böhm-Bawerk gave the example of a farmer who had five sacks of wheat. With the first sack, he will make bread to survive. With the second sack, he will make bread again so that his strength increases for work. With the next sack, he will feed his cattle. The next sack is used to make whiskey and the last sack to feed the pigeons. If one of the sacks was stolen, he would not reduce the activity to one fifth. Instead, he would stop feeding the pigeons. So the value of the fifth sack of wheat is equivalent to the satisfaction he gets from feeding the pigeons. If he sells the sacks and ignores the pigeons, the least productive use of the remaining sacks is making whiskey, so the value of the fourth sack of wheat is equal to the value of his whiskey. If he loses four sacks of wheat he will eat less; this is the most productive use of the grain it has. This last sack of grain was equivalent to the value of his life. In explaining the diamond-water paradox, marginalists explain that it is not the total utility of the diamond or the water that matters, but the total utility of the diamond