Classical Value Theory (Part 1 of 5)

Value theory is an important microeconomic building block of any macroeconomic system (Ekelund & Hébert, 1997). The subject typically arises when the economist attempts to explain how income is distributed, possibly as part of a larger economic system. The importance of value theory in economic discussions can be seen through analogy: one cannot engage in a discussion of the growth of the forest without considering how individual trees grow. Classical economists were faced with this sort of paradox. They were faced with the task of reconciling the labor theory of value with the supply/demand theory of value while explaining the macroeconomic workings of a relatively new phenomenon: the post-mercantile industrial economy. It is worth noting that while conducting such an inquiry, the approach to how income is distributed may be influenced by the initial biases of the economist. So too, Adam Smith, David Ricardo and Thomas Malthus approached value theory and analysis from their own perspectives.

In the classical sense, value can arise in a number of ways. Products have value in use and in exchange. They can have high exchange value and little value in use, high value in use and little exchange value or some measure of both. Some products have little exchange value unless combined with other products through a manufacturing process. The amount of labor employed can be an important measure of a product’s value, especially in an economy where labor is the primary factor of production and the markets are primitive. Labor employed can also influence long run costs of production in a more advanced economy. In some cases, additional labor does not add a proportional amount of value. (Note that a labor theory of value can be further confused by adding the notion that the value of a good is tied to its convertibility into labor or other goods that were produced by labor.) Classical economists argued on both sides of the value in use vs. value in exchange discussion but did not adequately resolve it.

A labor theory of value leads to development of a central rallying point for the price of a product. The seller is compelled to adhere to this “price” at the time of the exchange transaction. Nevertheless, of course, the seller may be inclined to accept a lower price on any individual transaction. The result is that real costs can be ignored in the short run but will have an effect on valuation in the long term. Still another point where real costs may not accurately reflect reality is in the production of goods past the break-even point or on the margin. In such an instance, the costs of production are indeed falling for the firm in question. However, another firm may not be at break-even, and so its costs are not falling. Therefore, when the production of these two firms is aggregated in an analysis of the marketplace, the long run costs of production are not an accurate determinant of price at any moment in time. Nevertheless, costs of production are linked to value and the economists have traditionally argued about the details of this relationship.

Reference

Ekelund, R. B., Jr., & Hébert, R. F. (1997). A history of economic theory and method (4th ed.). New York: McGraw Hill.