EXCHANGE VALUES ARE RATIOS

105

of one or the other of them. In such cases marginal utilities must be carefully balanced against one another if an unwise selection is to be avoided. The typical consumer of industrial society is an individual with numerous and varied wants having access to markets in which numerous and varied goods capable of gratifying these wants are offered for sale, but limited in his means so that many of his wants must go ungratified. Successive units of each particular good offered for sale obey the law of diminishing utility. In order to get the largest return from the expenditure of his limited means the consumer must consider the law of variety. He must not buy an additional unit of one good when a unit of some other good which may be had at the same, or a lower, price has greater utility. In general he should carry his purchases of units of different goods which he desires down to the point at which the returns in utility for his last units of expenditure are approximately the same all along the line. Only under these conditions is he getting the largest possible return in utility for his expenditures. Economists sometimes speak of the marginal utilities of all of the goods which a person consumes as determining the location of his margin of consumption. This margin should be as even as possible to insure the maximum return in gratification to the consumer with limited

means.

Phenomena.

§ 59. As the practice of bartering goods for one another has Importance given way to the more convenient plan of selling goods for of Price money, prices, exchange values in terms of money, have come to be the central phenomena of industrial society. Business men do not now compare commodities by saying that so much of one exchanges for so much of the other, but by noting their prices. They do not say, for example, that a bushel of wheat is the equivalent of two bushels of corn, but that the price of wheat is one dollar a bushel and of corn fifty cents. In conformity with this practice the discussion of the circumstances which determine exchange values in the next chapter is couched in terms of prices.

The first principle in reference to exchange values that must Exchange be emphasized is that as ratios they can neither rise nor fall Values as a whole. Values in use, measured as they are by marginal

Are Ratios.

The Value of Money May Change.

The Value

utilities, may increase, but values in exchange cannot. A change in the exchange value of a particular good always and necessarily involves complementary changes in the exchange values of other goods. For example, if the exchange value of a bushel of wheat increases from one bushel of corn to two bushels of corn, the exchange value of corn has diminished from one bushel of wheat to half a bushel of wheat. Exchange values as a whole cannot be said to have changed at all.

It is equally important to note that the exchange value of any single good may increase or decrease, and that this is as true of money, the commodity in which prices are expressed, as of other goods. When the exchange value of money increases prices fall; when it decreases prices rise. Thus when a dollar will buy two bushels of wheat instead of one its value in wheat has doubled, but the price of wheat has been cut in two. As prices are the barometer which guides business men in all their transactions it is of the greatest importance that that commodity should be selected to serve as money which is least likely to fluctuate in its exchange value.

§ 60. The value in use of a unit of money, or of a dollar, of Money. like the value of anything else, is man's estimate of its marginal utility. This is identical with the marginal utilities of the goods which his marginal dollar will buy. Each man has a certain money income to expend and a certain scale of wants to gratify. His effort is to get the largest possible return for his outlay. To accomplish this he must consider the prices of things quite as much as their utilities. His first dollar should go for that combination of goods having the greatest utility, his second for a somewhat less needed combination, and so on, each dollar adding somewhat less to his store of utilities than its predecessor. The marginal utilities of the goods purchased with his last available dollar measure the value of a dollar. It is these goods that the additional dollar adds to his store; take the dollar away and it is these goods that he must forego. They measure the importance, or value, of a single dollar in his scale of living.

Few people, even among those who regularly spend their entire incomes for the gratification of their wants, estimate

the value of a dollar as rigidly as the above analysis implies, and yet every one as a result of his business experience has a pretty accurate notion of the value of the monetary unit. If parents sometimes complain that their children are without such a conception, it is a proof merely that conditions have changed since they were young and that the value of a dollar to their children is actually less than to themselves. In the minds of intelligent men the value of a dollar includes not merely the utilities of consumable goods, but leisure for enjoyment, social esteem and influence, the perpetuation of the family name and family traditions-everything, in short, which command over dollars may secure and which seems to them desirable. It is probably true also that some people worship dollars in a quite irrational way for their own sake, though misers who have no ulterior motive beyond hoarding up money are more common in fiction than in real life.

Error in

§ 61. Until about forty years ago, treatises on political Adam economy regularly entered upon the discussion of values in Smith's exchange without having given any special consideration to Discussing the values in use, upon which they depend. As Adam Smith value. was largely responsible for this practice, it is worth while to recall how he came to fall into such serious error. In his Wealth of Nations* he defines values in use and values in exchange very much as we have done. Then, after asserting that value in use is an essential condition to value in exchange, he goes on to prove that they have no further relation to each other by comparing the value of water with the value of a diamond. His exact words are: "The things which have the greatest value in use have frequently little or no value in exchange; and, on the contrary, those which have the greatest value in exchange have frequently little or no value in use. Nothing is more useful than water, but it will purchase scarce anything; scarce anything can be had in exchange for it. A diamond, on the contrary, has scarce any value in use, but a very great quantity of other goods may frequently be had in exchange for it." The fallacy in this reasoning is obvious. The logical contrast is not between the value of water in general and of a diamond, but between the value of a particBook I., Chap TV,

ular volume of water, such as a quart, and of a diamond. If Adam Smith had concentrated his attention on the value in use of a quart of water in the little Scotch village of Kirkcaldy, where he penned these sentences, he never would have asserted that the value of water was so great. On the other hand, in speaking so slightingly of the value of a diamond, he is passing from the economic to the moral point of view. Perhaps a diamond ought to be of slight utility to men, but with human desires and the supply of diamonds as they are, it is very certain that it is not.

As is shown in the next chapter values in exchange are vitally dependent upon values in use. The calculations of consumers, their balancing against one another of the marginal utilities of units of goods at their margins of consumption, choosing those units with the larger utilities and rejecting those with the smaller, determine the demand for the commodities that are bought and sold in the markets of the world and this demand is one of the two factors that determine values in exchange.

REFERENCES FOR COLLATERAL READING

*Seligman, Principles of Economics, Chaps. XII. and XIII.; *Clark, Essentials of Economic Theory, Chap. VI.; Smart, Introduction to the Theory of Value; *Böhm-Bawerk, Positive Theory of Capital, Book III.; *Pierson, Principles of Economics, Part I., Chap. I.

CHAPTER VII

VALUES IN EXCHANGE AND PRICES

Prices.

§ 62. The circumstances which at last analysis determine The Deterthe money prices of goods and services are exceedingly com- mination of plex. To understand them completely one must comprehend every phenomenon of economic life. Nevertheless the actual process by which money prices are fixed is comparatively simple. Buyers and sellers come together each with definite notions as to what the prices should be, and the prices finally fixed are the result of their bargaining.

Calcula

tions.

On the side of buyers the following calculations are com- Buyers' monly made: (1) They decide in regard to the values in use of the different goods offered for sale, and if they think of getting more than a single unit of each good they consider the values of additional units. In this connection, as already explained, marginal utilities are decisive. (2) They decide as to the prices that they are willing to pay. As regards most of the goods purchased there is no hesitation. Experience has taught that at the prices at which they may ordinarily be purchased they afford the greatest return in gratification to be derived from the expenditure necessary to such purchase. Thus the general level of prices is a circumstance that always influences buyers, though they are so accustomed to thinking of the prices of staple articles as relatively fixed that they usually give little thought to it. The average family purchases flour, sugar and the other staples that enter into the consumption of every household as a matter of course. Deliberation begins only after these necessaries are secured, and the question is how to get the largest return for the sum that remains to be expended. Buyers vary greatly in the intelligence they show in disposing of their surplus incomes. Some expend them regularly for goods which they do not really need, but which attract by their novelty. Less impulsive