Karl Marx wrote that the value of an item is determined by how much labor goes into producing it. A diamond is valuable because of all the work that goes into mining it. Therefore, Marx argued, since value is created by the worker, any revenues that the capitalist receives constitute theft from the laborer.
In 1871, Carl Menger, the founder of the Austrian school of economic thought, in his book Principles of Economics, destroyed Marx’s labor theory of value. The value of an item has no relation to the amount of labor that goes into producing it, Menger showed. Value is like beauty — it lies in the eyes of the beholder. A diamond on top of the ground is just as valuable as one dug from deep within the earth — it all depends on who is doing the valuing. The subjective theory of value came to be one of the bedrock principles of an unhampered market economy. (The theory was independently developed by two other economists at about the same time — a Swiss named Léon Walras and an Englishman named William Stanley Jevons.)
Different valuations permit people to improve their standard of living through the simple act of exchange. Suppose I have ten apples and you have ten oranges. I value my tenth apple differently than if I owned only one apple. The same goes for you and your oranges. We exchange one apple for one orange because we both value what we are gaining more than what we are giving up. Otherwise, we would not make the exchange. Thus, we both improve our well-being by entering into a mutually beneficial transaction with each other.
This was the original idea behind barter. People began specializing in producing goods and services in which they were comparatively more talented. Then they would exchange what they produced with people who were doing the same. A wheat grower would exchange with a cattle producer. A chicken grower would exchange with a cotton farmer.
But barter quickly became complicated. Suppose Farmer A wanted something that Farmer B produced. Suppose Farmer B wanted something that Farmer C produced but not what Farmer A produced. Or suppose a cattle producer wanted a quantity of cotton that he valued at only 1/2 a cow. How would the trades be effected?
Gradually, people began turning to a commodity that was readily marketable as well as easily divisible. For example, tobacco. Farmer A would trade his apples for tobacco even though he had no use for tobacco. He knew that he could take the tobacco and use it as a medium of exchange to buy what he wanted from someone else. And he knew that he could divide the tobacco into smaller quantities in order to buy less expensive items.
People ultimately turned to the precious metals as money. Gold and silver were readily accepted in the marketplace, held their value relatively well, and were easily divisible. A trader desiring to purchase 100 bushels of apples would ask the seller what he wanted for them. The seller would respond with a quote of one ounce of gold. The buyer would agree and pull out his bag of gold. The gold would be weighed and the transaction would be consummated.
Thus, the price of an item was determined by how much or how little value the owner put on it in relationship to other things he wanted. By placing a price of one ounce of gold on 100 bushels of apples, the owner was saying: I value one ounce of gold more than I do these 100 bushels of apples.
Gradually, people found it cumbersome to weigh their gold and silver every time they made a transaction. Moreover, there was always the possibility that scales were false. Thus private minters came into existence.
A minter would issue, for example, a one-ounce gold coin. His private minting company would certify the coin as to weight and fineness. He would sell the coin for a little more than one ounce of gold, and people would be willing to pay for it in order to facilitate their trades. If the minter had a good reputation, his coins would circulate freely as money.
In his book Man, Economy, and State, Murray Rothbard refers to a private minter of great repute — the Count of Schlick, who resided in Joachim’s valley (or Joachimsthal) in Bohemia in the 16th century. His one-ounce silver coins were known as “Joachims-thalers,” ultimately shortened to “thalers.” This is the origin of the term “dollar.”
Unfortunately, kings and queens recognized an opportunity for plunder. They put private minters out of business and monopolized the minting of coins, all for the “public good” of course. One-ounce gold coins, for example, would come into the hands of the king in payment of taxes. The king would clip the coin by shaving gold off the edges. He would then gather up the shavings and make a new one-ounce gold coin that he then would use to go buy things for himself and his royal ilk. It was the earliest system of inflation, the insidious process by which governments loot the people through the destruction of their medium of exchange — their method of communication in the marketplace.
As people began discovering that the king’s one-ounce gold coins contained less than one ounce of gold (because of what had been clipped off), the coins would begin trading at a discount. That is, a merchant would not accept them at face value but rather at 7/8 ounce of gold, for example. This infuriated the king because it impugned the integrity of government. The king, or course, would blame the debasement of the currency on those “greedy, profit-seeking, bourgeois, capitalist swine” who were raising their prices. He would then decree “legal-tender laws” — laws that required people to accept government money at face value, no matter how much loss it caused people in the marketplace.
Guttenberg’s invention of the printing press made the monetary situation even worse. The king began printing promissory notes or bills of exchange that he would require people to accept, on pain of fine and imprisonment, in lieu of gold and silver coins. This process of inflation would become the method of choice by which governments in the modern era would plunder and loot the citizenry.
The price system is simply the intricate system by which people communicate in the marketplace all over the world. For example, suppose a hurricane destroys thousands of homes along the Texas Gulf Coast. The demand for plywood immediately skyrockets. But how is this increased demand communicated? Do people have to put ads in the newspaper or on the radio?
No. The price system does the communicating for them. The price of plywood immediately soars as a result of the new demand and the limited supply. The skyrocketing price sends a signal not only to buyers along the Texas seacoast but also to sellers all over the world. Buyers are told by the higher price: Conserve! Sellers are told: Start producing more and ship it to Texas! As new plywood starts to arrive in Texas, the increase in supply begins a downward pressure on the price.
But notice that no one — and especially not some politician or bureaucrat — has to start making big, public pronouncements or decrees regarding the need for new plywood. The price system that is central to an unhampered market economy does all the communicating that is necessary.
Does a logger thousands of miles away have to read the newspaper every day to keep up with these types of things? No. All that he has to know is this: What’s plywood going for today? When the price soars, he doesn’t have to know why. The market signal is enough to say to him: Start producing more. He doesn’t have to know that the reason the price has gone up is that families in Galveston, Texas, need to rebuild their homes.
Thus, when a politician condemns “profiteering” during a natural disaster, he actually aggravates the disaster. He tampers with the intricate system of communication upon which the market relies. Suppose that the Texas governor decrees: “Anyone who sells plywood at a higher price than existed before the emergency will be prosecuted and punished for ‘price-gouging.’” The result will be this: Purchasers will fail to conserve and sellers will fail to increase supplies because the financial incentive (higher prices) to take these actions will have been eliminated. The current stock of plywood will disappear and will not be replenished. In the name of “doing good,” politicians and bureaucrats who interfere with the price system, especially in times of emergency, do an infinite amount of harm, especially to the people who are already suffering.
The entrepreneur or capitalist is the person in the unhampered market economy who risks his money in order to capitalize on an opportunity. Rather than condemning him, we should be exalting him! The profit he receives is not theft from the worker, as Marx suggested, but rather his reward for taking the risk that ultimately benefits others.
For example, suppose that after the Texas hurricane, an entrepreneur has his agents immediately purchase enormous quantities of ice from ice houses in San Antonio, Austin, and Dallas, and ships the ice by helicopter into Galveston. He invests, let us say, $25,000 in ice, personnel, and equipment.
If electricity has been restored by the time the ice arrives, the entrepreneur loses all his money. If electricity has not been restored, he stands to receive, let us say, $100,000 — a profit of $75,000. Is this exorbitant? Excessive? Obscene? How can a profit ever be any of these things? The capitalist takes the risk with his own money. Each of the purchases and sales of ice is simply reflecting the respective valuations of the parties in the light of the circumstances then existing — i.e., disaster conditions. Which is better: no ice or expensive ice?
Profits are simply part of the intricate system of communication in the unhampered market economy. They are a way of saying to a capitalist: “Good job. You produced the goods and services that other people wanted and were willing to pay for under the conditions existing at that time.” Losses are the opposite. They say to the capitalist: “You did a bad job in satisfying consumers.”
The fact is that any government regulation that interferes with mutually beneficial trades at any time is interfering with people’s ability to improve their well-being. People enter into trades to improve their standard of living. When politicians and bureaucrats interfere with these peaceful transactions, they frustrate the ability of people to seek their own happiness in their own way. Most important, government officials should never be permitted the power to interfere with prices and money. People’s well-being — sometimes even their survival — depends on the unhampered market economy’s simple but intricate system of communication.