An Introduction to the Theory of Value

on the Lines of Menger, Wieser, and Böhm-Bawerk

First Edition – 1891

by William Smart (1853-1915)

Chapter XIII
From Marginal Products to Cost of Production

ITV-E1-13.1 Thus far the matter has been comparatively simple. We have looked at a concatenation of successive groups with one final product, and with, of course, one marginal utility and one value. But we have now to face the fact that productive groups may pass into a great number of final products, each with a different marginal utility and value. The more industry is divided, the more is this the case. Productive goods, such as coal, oil, labour, go more or less to the making of millions of products. And it is here that we find the raison d’être of the law of cost as a convenient abbreviated expression of a deeper law. Let us follow the matter out methodically.
ITV-E1-13.2 A stock of productive goods, which we shall call X, is capable of producing finished products A, B, and C. The value of these products for the time is, respectively, 100, 110, and 120. Which product will determine the value of the productive unit of X? – It will be the least of the three. For, suppose so many units of the stock X get lost that it is impossible to make A, B, and C, the one given up will, of course, be A, – the employment of X which produces the least valuable product. Any other choice would be contrary to economic conduct. When we say, then, that means of production get their value from their product, we must be understood as meaning the value of their final or Marginal Product.
ITV-E1-13.3 But, again, if B and C are articles of large common manufacture, they cannot long retain their value of 110 and 120; it is merely a question of time till their value falls to 100. Here we begin to see the plausibility of the idea that cost of production determines value.
ITV-E1-13.4 To put this concretely. A man has a farm of 90 acres divided among three crops, which, in the circumstances of the market, give him three different returns. On 30 acres he grows wheat, which, we shall suppose, yields him a value represented by 100; on another 30 acres he grows potatoes, which yield him, say, 110; on another 30 acres he grows barley, which yields him 120. What is the value of the productive group made up of his labour and one third of his land? (We leave out of account, for simplicity’s sake, the other co-operating factors.) If the value were given to land and labour by the actual returns there would be three different values, and this really is the case where competition has not its full play. But, if there is no monopolist factor, these three values cannot be maintained. The value of the first product, 100, determines the value of the means of production, the labour and land, and it is only a question of time and competition till this value of the means of production has imposed itself on the potatoes and the barley, and reduced their price to the same comparative level as that of wheat.
ITV-E1-13.5 Here, then, we have the explanation of the law of cost of production. It is quite true that, in the case of goods reproducible at will, or, in our vocabulary, in cases where substitutes are immediately available either by exchange or from production, the costs of production determine the value, and the formula is both true and convenient. All the same, it is merely a particular instance of the universal law of Marginal Utility. In all cases the marginal utility of the last product economically produced determines the value of the means of production; these means of production then become the intermediate standard; and the value of goods produced from them cannot, in the long run, be higher than the value got from the marginal product.
ITV-E1-13.6 The practical working of the law may be seen from a personal experience of the writer. In the cotton thread trade there was for years a demand for a thread which should be a fair substitute for the much more expensive article, sewing silk. The prices of cotton thread and of silk thread respectively gave housewives and shopkeepers a rough guide to a subjective valuation, and the figure put upon this demand was something like 20/. (It could not be more for the reason that no cotton substitute was able to take the place of silk in any but a few of its least important uses.) This price, offered by shopkeepers to travellers, told the cotton-thread manufacturers what they could offer to cotton spinners for superior yarns, and what they could afford for more expensive chemicals and polishing machinery. As consequence, after many experiments the silk substitute was produced, and sent into the market at a price of 20/ per gross. But once these superior yarns were made, the cotton spinners, increasing the production of them, found other outlets. Before long the thread makers saw that this silk substitute was not the marginal product of these particular yarns: that in fact other cotton threads of lower quality were being made from the same yarns. These yarns then entered into the cost of silk substitute with the predetermined lower value given them by the other finished goods, and in a short time the price of the silk substitute fell from 20/ to 18/, in conformity with the value put upon the yarns by the new marginal product. The same phenomenon occurs whenever a demand for a new article or a modification of an old one arises, and is interpreted by the enterprise of manufacturers.

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