Federal Fiance Made Easy

It never ceases to amaze me how people misunderstand the process of financing the federal government. The ridiculous economic stimulus programs that the government frequently adopts provide just one example.

I thought that a simple explanation of the dynamics of government finance would help readers understand how this system works.

How the Government Spends Money

To understand government finance, you must first understand the meaning of what people generally refer to as government “spending.” Although I do use the word occasionally, I try to avoid “spending” when referring to the money government disburses. Spending implies voluntary exchanges of earned resources (or money) for goods and services. Governments do not earn money. We’ll see how they get it in a moment.

Despite the laundry list of programs that get money from the government, those programs fall into three general categories of disbursements: 1) transfer payments; 2) acquisitions; and 3) debt payments. This diagram depicts those general categories of disbursements from the Federal Government to the National Economy.

Transfer payments

As the term implies, transfer payments simply transfer money to individuals, who belong to some specific group or category of citizens (or even non-citizens). Examples of transfer payments include: Social Security, Medicare, Welfare Payments, and Economic Stimulus Payments. The government receives nothing in return for these payments.

Acquisitions

Acquisitions include all disbursements made in return for products and services. Unlike transfer payments the government gets something for the money it disburses. Examples of acquisitions include: Defense, Highways, Buildings, and Salaries for Legislators and bureaucrats.

Debt Payment

Debt payment includes all payments made on federal debt obligations. This includes principal and interest.

As many categories as the people in government invent, and as many hearings and debates the legislators have, the “spending” side of federal finance boils down to these three categories: money given away (transfer payments), money to buy stuff (acquisitions), and money to pay debt obligations (debt payments).

That, however, does not provide a complete picture. Every dollar that government disburses must come from somewhere. Government has no money of its own. And, it earns no money.

So, where does government get the money it disburses?

How the Government Gets Money

Coincidently and conveniently it comes from three sources. I have completed the diagram of government finance to show those sources of money: 1) taxes, 2) inflation, and 3) borrowing.

Taxes

Taxes—all forms of federal taxes—provide the primary source of money for the disbursements described above. (I have included fees with taxes because the market does not determine these fees.)

No matter how nicely you phrase it taxation amounts to the use of the coercive power of the government to take people’s private property. Plunder, thievery, and taxation all provide accurate names for this source of government money.

Borrowing

The nature and effect of government borrowing seems to confuse people. Most explanations of government borrowing tend to complicate the subject beyond comprehension.

First, why does government borrowing occur?

As depicted in the diagram, the government must have a source for every dollar it disburses. Taxes provide the money for most of those disbursements, but when the government spends more money than it collects in taxes it must borrow to cover the deficit.

Second, what effect does borrowing have on the national economy?

In simple terms, borrowing has only a slightly different effect than does taxation. It takes money, which has other uses, from the national economy. Just as with taxation, when the government borrows money from the economy, that money gets used as government authorities dictate, without the benefit of a pricing mechanism. That money is no longer available for any other purpose for which the free market might have used it.

Third, what secures government borrowing? Or, what provides assurance of repayment to lenders?

People don’t lend money without the expectation of getting paid back. When people lend money to a government they rely on the government’s ability to tax in order to repay those loans. The security for government debt comes from its ability to tax.

(I don’t have the space to elaborate here, but don’t get confused by people who talk about “borrowing against our kids’ future.” First, money borrowed by government gets redistributed in the economy today—not in the future, just like taxes. Second, when government makes debt payments in the future, government redistributes that money in the economy at that same time in the future. The government makes a transfer today. The government makes a transfer in the future. In addition, the “wealthy” lend money to the government; the “wealthy” pay taxes to repay that debt—not “our kids.)

Inflation

With the aid of the banking system, the government can create new money to “pay its bills.” The Government likes this method for “collecting” revenue for several reasons: it can do it unilaterally (with the assistance of banks), without people noticing, and people don’t feel the pain immediately.

I have described inflation as a receipt like the other sources of revenue because inflation takes value away from people in the economy—just as taxation does. When the banking system creates new money—from nothing—the value of money already in existence declines. But, the decline in value does not affect everyone uniformly. Those who get this new money first benefit; those who get it later suffer. Just like counterfeiting.

Although the banking system has the power to create money for any purpose, it frequently creates it to buy federal debt—frequently referred to as monetizing federal debt. That does not change the effect of inflation: transferring value from on group of people to another group.

(Because of the complexity of the concept of inflation, I will address it in more detail in future posts.)

The Books Must Balance

For every dollar the government disburses it must receive a dollar from somewhere. Disbursements and receipts must always equal. Simple. Keep this in mind whenever reading or hearing about government finances.

When your legislators propose wonderful sounding programs (e.g. healthcare, museums, homeland security, or economic stimulus) they must tax, borrow, or inflate to get that money. They cannot give you anything for free.

Similarly, when they propose tax cuts without equivalent spending cuts, don’t let that fool you. They must borrow or inflate to make up the difference.

This system looks rather benign. Doesn’t the government put back into the economy every dollar it takes out?

Yes, it does. However…

A Flaw in the Model

That last question exposes the flaw with the model I have presented here. The homogeneous entity that we refer to as “National Economy” simply does not exist. The economy actually exists as an interconnected, yet heterogeneous, collection of individual people and businesses.

Transfer payments, acquisitions, and debt payments do not go to everyone equally. The government makes those disbursements to specific people or organizations—based on the whim of legislators, not the desires of market participants.

Taxes, borrowing, and inflation do not come from individual people and businesses uniformly. Specific people or organizations pay taxes, lend money, or suffer from the effects of inflation.

The Wealth Redistribution Machine

In summary, the federal government acts as a gigantic wealth redistribution machine. In the aggregate, the government gives a dollar for every dollar it takes. The economy, however, does not operate as an aggregate. So, for every dollar the government gives to one group of individuals it must take a dollar from another group of individuals.

Government finance simply amounts to involuntary, coerced, exchange.

Who Really Determines Wages?

Many people have the impression that business owners unilaterally determine wages and prices. They believe that consumers have little control in the process of setting either prices or wages. People who believe this are gravely mistaken about how the price discovery process actually works. Prices are ultimately determined by what consumers willingly pay. In any market free of intervention, consumers have the ultimate control over the determination of all prices and wages.

I will attempt to describe this very complex process with the use of three diagrams that depict three different scenarios. More than likely I will need to revisit this topic because it can be rather difficult to explain.

The Initial Conditions

I will use the following chart to help demonstrate the first scenario and to set the stage for the scenarios that following:

Initial Conditions
The Initial Conditions

This chart depicts an analysis used to determine the breakeven point for this particular business.

The sloping line that ascends upward to the right, beginning at $1,000, indicates the total expenses for producing the number of units shown on the bottom axis.

The total expenses consist of fixed expenses that do not change regardless of the number of units produced — in this case $1000 – plus variable expenses.

Variable expenses consist of those expenses that increase, incrementally, with the number of units produced. On this chart the distance from the fixed expenses to the total expense line represents the amount of variable expenses.

The upward sloping line that begins at zero, marked by the small squares, represents the amount of total revenues.

The difference between total revenues and total expenses, at a particular volume of sales, equals the amount of profit or loss realized by the business.

This chart does not have a time dimension. It represents the number of units produced and sold over a fixed period of time. Although most businesses don’t break their expenses down to such a small timeframe, I have chosen, for this example, to use the timeframe of one hour. I’ve done this so I compare hourly wage rates.

I have assumed that each worker can produce four units per hour. Thus, it takes 25 workers to produce 100 units, 75 workers to produce 300 units, and 125 workers to produce 500 units. The amount of pay does not influence the production rate.

The owner of this business has discovered, as a result of trial and error over several years, that, at a price of $5 per unit, he can consistently sell 600 units per hour. This volume of sales will generate total revenues of $3000 per hour. To produce 600 units, he must hire 150 workers. To make a small profit of $200 per hour he can afford to pay his workers $2,800 in total, which amounts to $12 per hour per worker.

The Effect of Increased Wages

This business owner has been under considerable social pressure to raise the wages of his workers to $15 an hour. He wants to pay his workers a reasonable wage, but he’s not sure whether he can afford a $15 an hour wage rate.

But, see what happens if he raises those wages without making any changes in his prices:

First Effect of Higher Wages
First Effect of Higher Wages

Because the owner continues to sell his product at the same price the demand remains the same at 600 units per hour. The additional expense of the higher wages for his workers, however, adds enough to his total expenses that, instead of achieving a profit, this little company now loses $250 per hour.

The owner realizes almost immediately that he has no alternative. He must raise his prices. If he continues to absorb losses at this rate, he will go out of business and there will be no jobs at any wage.

He decides to raise his unit price from five dollars to six dollars.

What effect does this have?

Adjusting for Increased Wages & Prices

After he raises his price, a couple of significant things occur as depicted in the chart below:

Higher Wages & Prices
Adjusting for Higher Wages & Higher Prices

The price increase would increase his total revenue at every level of sales. If he could maintain the 600-unit per hour sales volume, he could pay his workers the higher wage and still maintain healthy profit.

The consumers, on the other hand, don’t agree.

The 20 percent increase in the unit price makes some of them decide that they cannot afford to buy the product. As a result the sales volume of the business falls to 500 units per hour. Because the workers each still only produce four units per hour, the owner realizes that he must cut back his production staff to 125 workers.

The higher wage has forced 25 people out of work.

As much as the business owner would’ve liked to continue employing the same number of workers at $15 an hour, many consumers just won’t bear the additional cost.

Thus, the consumers really decide whether a company can raise its wages.

Advocates of higher mandated wage minimums should consider the effect on employment. “Minimum wage” laws prohibit business from offering jobs at lower wages to people who would willingly accept those wages. These people seem to prefer some unemployment at mandated wages levels than full employment at voluntary wage levels.

Changing Interest Rates

Last week I discussed value as it relates to the recent volatility in the stock market. Some commentators have attributed price volatility to recent changes in interest rates. They have gone on to speculate about when the Federal Reserve will “raise interest rates.” I figured now would be a good time to open the subject of why the Federal Reserve — or anyone else — cannot raise interest rates.

The truth of this statement lies in the fact that an interest rate amounts to a dependent variable. No one can change a dependent variable directly. Changing a dependent variable requires changing one or more of the independent variables used to calculate it.

It’s that simple, but I should explain in a bit more detail.

In the details of my explanation I will refer to the diagram below.

First, this diagram shows the number of units of goods on the vertical axis and time on the horizontal axis. The left side of the time axis indicates the amount of current goods provided by one party in exchange. The right side of the time axis indicates the amount of future goods provided by another party in the same exchange.

Second, for the sake of explanation, people divide the future goods into two categories: principal and interest. The principal amounts to the number of units provided as current goods. The interest equals the difference between the total future goods and the amount of principal.

Third, the sloping line between the total current goods and the total future goods represents the rate of change in interest. The slope of that line equals the rate of interest. To be precise, the rate of interest to the quantity of goods exchanged with each unit of time. To state it another way, an interest rate would amount to, for example, five units per year or 10 units per year or, if it were a money transaction, $10 per year.

What people frequently refer to as an interest rate, really consists of a fractional rate of interest. It consists of the rate of change in interest over time as a percent of principal — e.g. five percent per year or 10 percent per year.

Fourth, the only ways in which the rate of interest or the fractional rate of interest can change are to change one or both of: the quantity of current goods or the quantity of future goods.

I have described interest in terms of goods, rather than dollars, because interest can be paid in any good in addition to money. This distinction becomes important when we take into consideration that money simply acts as a medium of indirect exchange.

Thus, the Federal Reserve can only influence rates by engaging in transactions that influence the amount of current dollars available or the amount of future dollars (usually in the form of government bonds) available. Clearly understanding how the Federal Reserve goes about influencing interest rates will help you more clearly understand the impact and limitations of this influence.

I will return to this point in future posts, because more examples will make this very important concept clearer.

Securities Values

Recent volatility in the stock market provides an excellent opportunity to reiterate the fundamental point about subjective value — i.e. the individual provides the source and measure of value.

If you have any temptation to see financial markets as an exception to the subjective theory of value, resist it. Value always arises from the individual. And, the individual’s ordinal scale of preference offers the only measure of value. That applies to financial instruments as well as any other economic good.

I have met several people who have studied the Austrian methodology in order to improve their investment performance. Most of them have given up the study because they have not realized an appreciable improvement in investment results. (Or, he could not see how to make a connection between investing in Austrian economic theory.)

This conclusion does not arise because of a flaw in the theory. Nor does it provide evidence that the subjective theory does not apply to financial markets. No. They get this impression because they do not fully internalize the concept of the subjective nature of the source and measure of value. As a result, they do not apply the theory in their investment practice.

So, briefly, how do people really value financial securities?

First, let’s eliminate the idea that a stock or a bond has any intrinsic value. We see evidence of that in daily fluctuations in securities prices. If the same security has the same “intrinsic” value from one day to the next, people would not exchange more (or less) money for the same securities from day to day.

Second, the small investor has a somewhat different reason to value a security than the large investor. He believes that someone in the future will pay more for that security than the cash he gives up today. If he anticipated that the future price, plus any dividends he receives, are sufficiently large to exceed his time preferences for cash today, he will buy that security. (The inverse applies to a sale.)

Third, the valuation process for the large investor (the one who owns a controlling interest) works the same. The only difference is a matter of scale. He buys (or sells) based on his anticipation that the future price for the entire enterprise will exceed his time preference for cash today.

In short, people value securities based on the subjective preferences in the same way that value any economic good. Some have called this — cruelly but accurately — “the bigger fool theory.”

Finally, evidence of subjective value exists with prices of entities that have not made money and don’t appear likely to making any in the future.

Introduction to Exchange

Exchange, a simple concept on the surface, has broad and profound implications in economic theory. All economic activity—all market activity—consists of exchanges. People, individually, exchange one condition for another—sleep for wakefulness, food for hunger, uncleanliness for cleanliness, and more. Cooperatively people exchange services for goods, goods for services, services for services, and goods for goods, and these exchanges form a network of interactions we refer to as a market.

Exchanges provide us with the objective information we need to make affirmative statements about market activity and what drives it. We can say what goods actors prefer over other goods. We can identify the breakdown of the division of labor. We get an understanding of comparative advantage. And more….

In spite of the objective information derived from exchanges, we must take care to not misinterpret that information. Prices, for example, provide significant data, but they do not give us a precise measure—or indicator—of value. We can only say definitely that the parties to the exchange valued what they received more than what they gave. So, a price—whether in terms of a money commodity or goods—does not give us a “market value,” as so many would say. Prices only provide an indication of actors’ preferences at a particular point in time. We can only assume that those preferences will not change significantly in the short-term. I should repeat: a price does not measure value.

I also need to make a clear distinction between “buying and selling” and “exchange.” “Buying and selling” make internal references. Whether a person buys or sells depends on their Individual perspective. “Exchange” makes an external reference. It does not matter whether one adopts the perspective of one actor, another, or an outside observer. These relationships are analogous to “left and right” and “north and south.” North and south remain the same regardless of perspective. Left and right, however, depend on the direction a person faces.

I have made the above comments as an introduction to exchange and its importance. I will break down the types of exchange in the next post or two.

Subjective Value

I have described, in earlier posts, some of the underlying concepts of the “Subjective Theory of Value.” In summary, individuals determine economic value subjectively and individuals establish their own measures of value based on subjective scales of preference. Individuals reveal their preferences, without precise units of measure, when they make an exchange.

These simple principles provide the basis for a complex system of values and action which create a network of relationships we refer to as a market. I will describe many of these complexities, and how they relate to market activities in future posts, but, for now, I want to sketch out an hypothetical situation that I hope will help you relate to the role of subjective value in your own actions.
************************************

John wanders the streets of the art village in search of a picture to decorate his living room wall. He encounters a store called “The Same Price Art Store”. The sign in the window says, “All art the same price,” and it quotes a price well within his budget. He steps inside.

As he enters the store he is immediately impressed by the quality and selection of the art on display. Almost instantly, however, he notices some of the works that will not fit the decor of his home. He quickly sorts through the remaining selection and purchases an attractive landscape photograph.

So, what does this shopping experience have to do with economics, free markets, and value?

Shopping for artwork provides a good example of the real source and measure of value—and hopefully one to which you can relate.

First, John subjectively places relative values on all the art and ranks a particular piece of art above the rest. He has no other source for that value other than himself—whatever scale he places on that value.

Second, he has created a unique measure of value. He has a preference for a particular piece of art over all the others available at The Same Price Art Store. Since all pieces have the same monetary price, in this scenario, money price plays no role in the choice of art. (I will explain the role of money in future posts.)

Fourth, by acting on his preference, he has created objective evidence of his preference. For the first time during his shopping trip observers can see, by John’s actions, that he prefers that particular piece of art more than the other works in the shop and more than whatever money he given for the art.

This hypothetical example demonstrates how value originates with an individual and how the level of that value derives entirely from the ordinal preference scale of the individual.

Now, create your own example. See how, for you, every determination of value results from your own subjective judgment, and that you measure that value only in terms of your preference over alternatives available. Regardless of what sort of purchase or exchange you make—for fruit, smart phones, cars, clothes, or art—you alone determine what you value and how much.

Subjective value and ordinal preferences make quantitative economists rather uncomfortable. I will demonstrate in this journal that Subjective Value Theory provides the only logically consistent explanation for the establishment of economic value, which provides a basis for understanding all economic activity.

Money Not a Measure of Value

Some people argue that money—or a monetary unit e.g. dollars, pounds, lira—plays the role as a measure of value. A money commodity cannot measure the value of economic goods because money commodities are also economic goods. To say that a dollar is worth a dollar becomes a statement of meaningless circularity. You cannot use the item being measured as a unit of measure.

But, why do we say things like, “that car is worth 23,000 dollars” or “that stock is worth 45 dollars”?

I suspect that the idea that a monetary good could represent a unit of value finds its origin in the mistaken idea that exchanges occur at an equilibrium of value.

I remember in my undergraduate economics classes trying to learn the concept of indifference curves. As I recall, if you calculate and plot the quantities at which persons don’t care (have an indifference) whether they have product A or product B you create an “indifference curve.” The curve expressing the indifference for A vs. B might represent the “supply curve” and the curve expressing the indifference for B vs. A might represent the “demand curve.” At the point where the supply curve intersects the demand curve each party values both goods the same—they have an indifferences at to which good they have. For some reason, according to classical theory, at that those quantities, they will want to make an exchange.

Forgive my somewhat confusing explanation, but it never made sense to me in the first place.

Classical economic theory makes this argument: that exchanges occur when the quantities of two goods reach an equilibrium of value. Thus, since we don’t have a unit of measure for value, it might seem fair to say that, when they are exchanged, A has the value of B, or vice versa. Based on that reasoning it would also make sense, when most exchanges involve a commonly accepted medium of indirect exchange (like a dollar), to replace that unknown unit of measure for value with the quantity of dollars exchanged.

This whole chain of reasoning, however, falls apart when we come to realize that exchanges do not occur at an equilibrium of value. When a person trades a dollar for a pack of gum, he makes that trade because he values the pack of gum more than the dollar. If the buyer valued the dollar exactly the same as the gum, he would have no reason to make the exchange. He will make the exchange only when he sees a greater value—no matter how small—in having the gum over having the dollar. Therefore, a dollar cannot represent the value for an item of less value than a dollar.

We should correct the hypothetical statements I made above: “to the buyer that car is worth more than 23,000 dollars” or “to the buyer that stock is worth more than 45 dollars.”

We also need to correct our understanding of widely publicized economic data. GDP for example: “GDP represents the monetary value of all goods and services produced within a nation’s geographic borders over a specified period of time.*” But, it does not.

More precisely GDP represents the total amount of money (in the local currency) spent for goods and services valued more than that amount of money exchanged by the individuals for those goods and services.

Think about it.


 

Finally, we moved to the only plausible theory of economic value: The Subjective Theory of Value

———————
* From InvestingAnswers: http://www.investinganswers.com/financial-dictionary/economics/gross-domestic-product-gdp-1223

Cost of Production Value Theory

Probably the most popular concept of value incorporates the cost of production. The idea here is that any economic good, whether a consumer good or production good, has value based on the sum of the costs of resources used to produce it. A loaf of bread, for example, would have the value of the sum of the cost of the labor to produce it, a portion of the cost of the stove used to cook it, all the costs associated with producing the flour, and presumably the cost of the land on which the wheat was grown.

Source

As appealing as the cost of production theory of value may seem, it does not hold up when you trace costs back to their origin. The production of all goods derive ultimately from combinations of land and labor — land provides all the resources used in production, and labor provides the original source of effort. Here we run head-on into the problem of intrinsic value. From where does land derive its value? Also, as mentioned above and in “Labor Theory of Value”, from where does labor derive its value?

This leads us again to the question of how do we measure the cost of production for any good?

Measure

It seems reasonable, on the surface, to sum the cost of the factors that contribute to the production of a good—labor, materials, and machinery—and use that as a representation of value. But, yet again, we run into some unresolved questions.

How do you measure the cost to produce the original factors of production—land and labor? I have addressed in “Labor Theory of Value” the difficulty in finding a satisfactory unit of measure for labor. Then, what unit do you use to measure the value of land?

Well, of course, we use the cost to the producers (what’s given up to acquire the land). But, if you work your way back to the original homesteader, what cost did he bear? And, did subsequent buyers and sellers make no profit or suffer no loss as the land got transferred to the present owner?

In addition to the difficulty of coming up with units of measure for land or labor individually, what unit do we use for both land and labor that we can sum to a meaningful total? You cannot add hours of labor and acres of land to arrive at the number of acre-hours as a unit of value. If you will forgive a touch of sarcasm, I simply wish to point out the difficulty of identifying a uniform unit for the measure of value—even for original factors of production.

This problem increases exponentially (I admit that I cannot suggest a unit of measure for the problem—consider it a figure-of-speech) with the introduction of multiple factors of production from different sources. Consider the consistency of establishing a uniform measure for the many parts used in automobile production. Many identical parts come for different parts of the country that have significantly different costs for land, labor, and lower level factors applied to them. Do Chevrolets with different parts, have different values?

You can see that using the cost of production does not provide a uniform source or a uniform measure for value.


Before I move on to discuss the only plausible theory of economic value, I want to take a brief detour to address a question that many people seem to take as obvious: don’t we use money as a measure of value?

Money cannot act as a measure of value and I will give a few of the many reasons in my next post: Money Not a Measure of Value

Labor Theory of Value

Source

Some people believe that, since all economic goods require some amount of labor to produce (even “free” goods require the labor to pick them up off the ground, pluck them off a bush, or capture them with one’s hands,) economic goods get their value from the labor required for their production.

Formal explanations of the labor theory of value frequently refer to the “total amount of socially necessary labor required to produce” the item. The theory also excludes the use or pleasure of the owner. This language, however, uses vague and abstract terms to explain the source of value—an already very abstract term.

But, from where does labor derive its value? The idea that labor puts value into goods implies that labor itself has some sort of intrinsic value that it can transfer to the economic good in the process of production. If labor has an intrinsic value, that would mean it had the same value when used to dig holes with no purpose as it did to plant crops that might feed a family or a village.

Whether labor has intrinsic value or acquires value for some other mysterious source, how does a person measure the value of labor?

Measure

What unit of measure do you use to value labor. Some have suggested using time is a measure of labor value. Thus, a product that required two hours to build would have a value twice that of a product that took one hour to build. Using time as a measure of value would mean that two cabinets, identical in every feature, would have different values because one cabinetmaker took twice as long to build his cabinet as the other cabinetmaker did to build his.

Even Karl Marx, the renown advocate of labor value, stumbled on this one.

Labor Theory advocates get around this pesky problem by saying value increases in proportion to labor performed with average skill and average productivity. But, in attempting to account for the inconsistency of time as a measure of value, theorists have injected the difficult task of measuring skill and productivity.

‘Round and ‘round they go.

So I turn the problem over to you, reader. If you believe that labor adds value to economic goods, explain the source and the unit of measure for that value.


Next, I will turn my attention to the “Cost of Production” Theory of Value.

Intrinsic Value

Believing that the value of a thing resides within an object or action seems like an easy approach at the outset. But the idea of intrinsic value falls apart, as do several of the value theories, based on our criteria: source and measure.

Source

The idea of intrinsic value argues that something in an object gives it value. Thus, an apple has a given value; an iPhone has a given value; a bar of gold has a given value; an automobile has a given value. And, somehow, all economic actors know of those values.

Each of those items may have inherent characteristics that separate them from the other items, but does that give them value that has any meaning in economic terms. The advocates of intrinsic value leave us with many unanswered questions. Here are only a few:

  • Does intrinsic value change with use? Does my iPhone have a different value if I use it as a camera, a word processor, or a paperweight?
  • Does intrinsic value change with form? Does the bar of gold have a different value if I have it converted into pieces of jewelry or electronic components?
  • Does intrinsic value change with stages of production? If iron ore has an intrinsic value, does it have the same value as it gets converted progressively into an iron ingot, a sheet of steel, and finally into an automobile body?

I think you can imagine other nagging questions, but each leads to the most troubling question: how do we measure intrinsic value?

Measure

The concept of intrinsic value really falls apart when the question of measurement arises. If economic goods get their value from within, how can we compare one economic good to another? What unit of measure do you use to compare the value of a peach with the value of an iPod, each of which gets its value from within.

One cannot compare the value (regardless of measure) of an apple and a shoe, if they have only intrinsic value. If a good has inherent value, what generalized unit of measure represents that value?

Weight, a characteristic of any object, for example, has a uniform measure that a person can use to compare one item to another e.g. 10 pounds of peaches compared to 10 pounds of iPods. You can see this distinction without getting involved in the physics principles of mass and gravity. But, value, unlike weight, has no distinct unit that can be used to compare one item with another.

For purposes of effective, efficient, economic action, value must have a common source and a common method of measure.


Next, I Will Discuss the Labor Theory of Value.