Many people are uneasy with the free market. I think that’s because they subscribe, implicitly if not explicitly, to the labor theory of value. Workers, people lament, seem not to reap the full and just reward for their labors. Belief in the labor theory puts adherents in good company. Adam Smith and his successor, David Ricardo, were labor theorists. Fédéric Bastiat held a variant of the labor theory.

Of course, labor theorists are also in some bad company, like Karl Marx, a true enemy of the people in whose name hundreds of millions have been murdered. In fairness, it should be acknowledged that Marx did not subscribe to a naïve labor theory, as it is sometimes assumed. He would not have thought a mud pie that took an hour to make would or should fetch the same price as a cherry pie that took as long. Marx wrote in Capital, “A thing cannot have value, if it is not a useful article. If it is not useful, then the labor it contains is also useless, does not count as labor and hence does not create value.” (Austrian economist Eugen von Böhm-Bawerk reproduced this quote in Karl Marx and the Close of His System.)

Nevertheless, the labor theory was the basis of Marx’s influential exploitation theory. In the market, so it is said, bosses get away with paying workers less than the value of their product, leaving them to toil for subsistence wages. Never mind the mind-blowing rise in workers’ living standards since the Industrial Revolution. Who are you going to believe, Marx or your own eyes? Hey, didn’t another guy named Marx say that? (Hint: It wasn’t Groucho.)

The evidence of our senses aside, if you refute the labor theory, you also refute the exploitation theory. If the market price of a good is higher than what the workers were paid per unit, the reason is not that their boss screwed them. The chief reason is that time is valuable. Workers want to be paid now, not later, when and if the goods are sold. The employer is willing to wait and take the risk. His return includes, among other things, the implicit interest rate that permeates intertemporal human action.

Opposing the labor theory of value is the subjective theory of value, which has been most consistently developed by the Austrian school. As I noted in a previous article, subjectivism in economics is not the same as subjectivism in philosophy. It means that when economists analyze markets, they must take as given the personal preferences that human beings demonstrate by their actions, which by nature entail choice. This view need not conflict with philosophical objectivism (or Objectivism, for that matter).

Carl Menger radically shifted economics from the labor theory to the subjective marginal utility theory. (People choose among units of goods “on the margin.”) We are forever in his debt. Here’s some of what he had to say in Part III of his landmark work, Principles of Economics:

When I discussed the nature of value, I observed that value is nothing inherent in goods and that it is not a property of goods. But neither is value an independent thing. There is no reason why a good may not have value to one economizing individual but no value to another individual under different circumstances. The measure of value is entirely subjective in nature, and for this reason a good can have great value to one economizing individual, little value to another, and no value at all to a third, depending upon the differences in their requirements and available amounts. What one person disdains or values lightly is appreciated by another, and what one person abandons is often picked up by another. While one economizing individual esteems equally a given amount of one good and a greater amount of another good, we frequently observe just the opposite evaluations with another economizing individual. Hence not only the nature but also the measure of value is subjective. Goods always have value to certain economizing individuals and this value is also determined only by these individuals.

I hardly think that anyone could disagree. Note that these differences present people with potential mutual gains from trade. Two people exchange things only because they value the things exchanged differently; each prefers what the other has to what he himself has. Neither sees the items as equivalent in value, and what would be the point in trading equivalents? Prices emerge in a money economy when people with diverse preferences seek their well-being by selling in the dearest market and buying in the cheapest. Competition limits the price range of goods.

I would, however, take issue with Menger’s use of the word measure. As one of Menger’s intellectual heirs, Ludwig von Mises, would later write, we rank our values; we cannot measure them. No unit analogous to ounces or inches exists. Ordinal, not cardinal, numbers are the order of the day. Note that you can’t do math with ordinal numbers. What’s first plus second? Third?

Menger now gets to the labor theory:

The value an economizing individual attributes to a good is equal to the importance of the particular satisfaction that depends on his command of the good. There is no necessary and direct connection between the value of a good and whether, or in what quantities, labor and other goods of higher order were applied to its production. A non-economic good (a [superabundant] quantity of timber in a virgin forest, for example) does not attain [exchange] value for men if large quantities of labor or other economic goods were applied to its production. Whether a diamond was found accidentally or was obtained from a diamond pit with the employment of a thousand days of labor is completely irrelevant for its value. In general, no one in practical life asks for the history of the origin of a good in estimating its value, but considers solely the services that the good will render him and which he would have to forgo if he did not have it at his command.

Again, who would disagree? When you shop, does the usefulness of a good depend on how long or how intensely someone worked on it? Do you even inquire?

Goods on which much labor has been expended often have no value, while others, on which little or no labor was expended, have a very high value. Goods on which much labor was expended and others on which little or no labor was expended are often of equal value to economizing men. The quantities of labor or of other means of production applied to its production cannot, therefore, be the determining factor in the value of a good. Comparison of the value of a good with the value of the means of production employed in its production does, of course, show whether and to what extent its production, an act of past human activity, was appropriate or economic. But the quantities of goods employed in the production of a good have neither a necessary nor a directly determining influence on its value….

The determining factor in the value of a good, then, is neither the quantity of labor or other goods necessary for its production nor the quantity necessary for its reproduction, but rather the magnitude of importance of those satisfactions with respect to which we are conscious of being dependent on command of the good. This principle of value determination is universally valid, and no exception to it can be found in human economy. The importance of a satisfaction to us is not the result of an arbitrary decision, but rather is measured by the importance, which is not arbitrary, that the satisfaction has for our lives or for our wellbeing. The relative degrees of importance of different satisfactions and of successive acts of satisfaction are nevertheless matters of judgment on the part of economizing men, and for this reason, their knowledge of these degrees of importance is, in some instances, subject to error…. Error is inseparable from all human knowledge…

Economics, then, is about how mortal, fallible individuals peacefully cooperate in a world of time and scarcity to obtain the things they believe will improve their lives. The arrangement is imperfect, but the coercively utopian conjurings of Marx, Lenin, Trotsky, Mussolini, Stalin, Hitler, Mao, Castro, and even Richard Wolff don’t even qualify as alternatives. Read some economic history and trust your own eyes.