Winfrey - 1993 - Derailing Value Theory Adam Smith and The Aristot

DERAILING VALUE THEORY:
ADAM SMITH AND THE

ARISTOTELIAN TRADITION
BY
JOHN C. WINFREY
I. INTRODUCTION
The word VALUE, it is to be observed, has two different
meanings, and sometimes expresses the utility of some particular
object, and sometimes the power of purchasing other goods
which the possession of that object conveys. The one may be
called 'value in use;' the other, 'value in exchange.' 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 any thing; scarce any thing 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 (Smith 1776, /, iv, p. 42).
According to most interpreters, this presentation of the paradox of

value by Adam Smith essentially derailed value theory for almost one
hundred years. Emil Kauder laments that "With these few words Adam
Smith had made waste and rubbish out of the thinking of 2,000 years.
The chance to start in 1776 instead of 1870 with a more correct knowl-
edge of value principles had been missed" (Kauder 1953, p. 648).
Did Smith mean to derail progress towards a theory of market prices
based on the subjective utilities of consumers? I do not believe so.
Indeed, Smith made what should have been significant contributions to
that discussion. This brings us to a second question: Did Smith mean
to derail progress towards a theory where all values, both market values
and social values, are derived from the subjective wants of individuals
as buyers? Yes, I believe he did. Unfortunately, after Smith's act of sab-
Washington and Lee University.
Journal of the History of Economic Thought, 15, Fall 1993.

(D
1993 by the History of Economics Society.
301
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302 JOURNAL OF THE HISTORY OF ECONOMIC THOUGHT
otage, value theories proceeded off in several directions at once. When

W. S. Jevons, Carl Menger, and Leon Walras finally got things back on
track, Smith's distinctions were lost.
In retrospect, Smith's definition of value in use clearly lies outside the
paradigm of neoclassical value theory. In the most familiar version of
the theory, demand is explained exclusively in terms of the purely
subjective evaluations of buyers. Certainly an important step in the
development of this neoclassical paradigm was a commitment to rely
solely on subjective wants rather than explanations of various inherent
qualities in the goods themselves. The genius of Walras and his
successors was to show how the subjective wants of consumers could
determine values of all goods and services, inputs as well as outputs, in
a general equilibrium model of the economic system.
It is generally agreed that Adam Smith presents several theories of
value. The controversy of our present focus is apparent in his expla-
nation of the water-diamond paradox. Instead of using the paradox as a
pedagogical device for demonstrating scarcity and the idea of diminishing
marginal utility, he uses it to differentiate between value-in-use and
value-in-exchange. It is his definition of value-in-use that is prob-
lematical. He would leave the definition open to include social as well
as individual "uses." He would not define it exclusively in terms of the
subjective wants of individual consumers. He goes on to outline a
number of theories of value, some based on commodities and some based
on labor.
Smith's theories of value are not as inconsistent as they appear. Each
has a purpose of its own. His primary theme, of course, is to ask what
makes for the wealth of nations. That is, what perspectives are useful
in understanding how economic activity may or may not lead to
economic growth? Smith's various value theories not only depend on his
overall theme but also depend importantly on the ideas of his predeces-
sors. Many of the same themes appear in the discourses of the ancient
Greeks, including Aristotle, Plato and Xenophon. Over the centuries
prior to Smith, these themes were debated in many contexts. It is
Smith's resurrection of controversies that were assumed to have been
resolved that so offended many of his contemporaries and successors.
Part of the confusion lies in the overlap of several other issues with the
one at hand. One parallel but unrelated controversy involves the
question of "natural" versus "market" values. When Smith contrasts
natural and market values he is usually referring to what we would term
long run versus short run market prices. Smith begins Chapter VII of
Wealth of Nations by explaining that in every society the rates of wages,
profit, and rent are naturally regulated by the general circumstances of
DERAILING VALUE THEORY 303
the society, whether it is in an advancing, stationary, or declining

condition, and partly by the particular nature of each employment. Later
Smith attempts to show how these long run natural rates are regulated.
But he makes clear that in the short run the market price may differ from
the natural price:
When the price of any commodity is neither more or less than
what is sufficient to pay the rent of the land, the wages of the
labour, and the profits of stock employed in raising, preparing,
and bringing it to market, according to their natural rates, the
commodity is then sold for what may be called its natural rate.
The commodity is then sold precisely for what it really costs
the person who brings it to market.... The actual price at which
any commodity is sold is called its market price. It may be
above, or below, or exactly the same with its natural price....
The natural price...is, as it were, the central price, to which the
prices of all commodities are continually gravitating (Smith
1776, /, vii, pp. 1-15).
The natural price, then, is related to long run costs, the long run supply
of land, labor, and capital, and what rates the owners of inputs must pay
if they are to make them available to the productive process.
Smith is criticized here for not providing an adequate explanation of
these natural, long run, input costs. He also is criticized for not linking
these prices more directly to the subjective wants of consumers. But
what is important for us to recognize is that this controversy has nothing
to do with the issue of whether market prices, long run or short run, may
be taken as social values. Unfortunately, controversy on the former is-
sue has blurred the latter issue.
II. THE PARADOX

Smith's most egregious sin, and our present focus, is the confusion
generated by his particular differentiation of value-in-use and value-in-
exchange. I will argue that the confusion engendered by Smith is not
due to his ineptitude, but represents a real tension between two funda-
mental concepts of value. Moreover, this tension is not of Smith's
invention but ran through arguments concerning value over the centuries.
It was present in the writing of the Greeks and was passed on, especially
through those writing in the Aristotelian tradition. Smith's treatment of
this dialectic is exemplified in his presentation of the water-diamond
paradox. The pedagogical point of the comparison is that price reflects
not only the usefulness, or utility, of a good but its relative scarcity.
That is, water is more useful than diamonds but the price of a diamond
is high due to this scarcity. The idea of diminishing marginal utility is
inherent in the observation that if diamonds were in great supply their
prices would be much lower.
In earlier writings Smith makes it clear that he understands the answer
to the paradox and its proper use in pedagogy. In Lectures on Jurispru-
dence, he uses the water-diamond paradox as an introduction to the
mechanics of demand and supply: "A thing which is hardly of any use,
yet if the quantity be not sufficient to supply the demand, will give a
high price; hence the great price of diamonds...abundance on the other
hand such as does more than supply all possible demands, renders water
of no price at all and other things of a price the next thing to nothing"
(Smith 1762-3, vi, pp. 70-71). Smith also uses a comparison between
iron and diamonds to explain market price in terms of demand and
supply. A necessary condition for demand is that individuals have a
need:
There is no demand for a thing of little use; it is not a rational
object of desire. But the price is determined by supply and
demand; that is,... the abundance or scarcity of the commodity in
proportion to the need of it. If the commodity be scarce, the
price is raised, but if the commodity be more than sufficient to
supply the demand, the price falls. Thus it is that diamonds and
other precious stones are dear, while iron, which is more useful,
is so many times cheaper, though this depends principally on the
last cause (Smith 1766, pp. 227-28).
Smith's treatment of the water-diamond paradox in Wealth of Nations
is different, so different that his "mishandling" of it seems intentional.
He states that "nothing is more useful than water" and that "a dia-
mond...has scarcely any value-in-use" (Smith 1776, /, iv, p. 13). The
rest of the argument should include the explanation that value-in-use
does, in fact, determine demand; but since the amount of the good is
limited, the market price will be low. That is, value-in-use determines
demand and, when considered in terms of abundance, determines market
price or value-in-exchange. But what Smith says instead is that the two
values are different in kind. He argues that market prices do not reflect
the real values of commodities. Some of his critics accuse Smith of
confusing total and marginal values. While the total value of water to
society is greater than the total value of diamonds, it is the marginal
values that are reflected in demand and market price. I argue that Smith
is not mistaken. He has demonstrated elsewhere that he can resolve the
water-diamond paradox. What he resists here is the idea that the sub-
jective evaluations of individuals, the choices they make in market

situations, and thus their "effective demand," adequately reflect all
individual and social benefits and costs. Can effective market demand
and values-in-exchange be taken to fully express values-in-use? I believe
that Smith's purpose here is to reintroduce the tension between value-in-
use and value-in-exchange. Smith accepts the idea that market demand
reflects the subjective evaluations of individuals as they make choices in
the market. He accepts the idea that these are in turn reflected in market
prices. What he resists is the idea that values-in-exchange adequately
reflect values-in-use.
A detailed history of value theory leading up to Smith would be
complicated and voluminous. Instead let us consider a few representative
arguments. The evolution of neoclassical value theory is usually depicted
as a series of contributions made in fits and starts over the centuries.
Finally, in the 1870s, the marginal utility theory is worked out by
Walras, Jevons, and Menger and the refinement process begins. Smith
is seen as causing a major setback to the process. I suggest that we use
a more dialectical approach. Out of the many crosscurrents, digression,
dead-ends, and so on, I would like to focus on the tension we have
described. The tension involves (1) valuing goods in terms of their
usefulness to individuals and to society as a whole versus (2) the
assertion that goods derive values only from buyers' subjective evalua-
tions and that these in turn are reflected in market prices.
III. THE GREEKS

Many of the concerns of Smith and his predecessors as to the proper
roles of subjective individualism and other explanations of value were
evident in the discourses of the ancient Greeks. S. Todd Lowry observes
that:
Consistent with its association with Bentham, it has been
tempting to assume that the hedonic calculus was spawned by
observations of burgeoning commercial activity in eighteenth-
century England and that it represented the application of sci-
entific measurement to the development of an operational theory
of commercial and political conduct.
In actuality, hedonic calculations of self-interest were worked
out in great detail in ancient times with, however, little reference
to exchange or commercial values (Lowry 1987, p. 32).
Plato presents an extended analysis of hedonic self-interest in the
dialogue Protagoras which features a youthful Socrates in debate with the
sophist Protagoras. As the concept and proper societal role of the

hedonic calculus is debated, we see some of the same concerns present
that will later be evident in the debates among Smith and his predeces-
sors and also evident within his own works as well.
Socrates asks: "So to have a pleasant life is good and to have an
unpleasant life is bad?" Protagoras replies, "I don't know...whether I
should give such a simple answer.... Rather it seems to me safer...to
reply that some pleasant things are not good, and again that some painful
things are not bad...and a third class is neutral, neither good nor bad"
(Plato 1976, 351, c-d). In another part of the dialogue Socrates argues
that if an individual encounters any difficulty in calculating and compar-
ing present and future pleasures and pains, it cannot be attributed to the
unavailability of a standard:
And what other way is there for pleasure not to be worth pain,
except that one should be more and the other less? And that is
a matter of being larger and smaller, or more and fewer, or
more and less intense. For if someone said, "But, Socrates,
there is a great difference between immediate pleasure and
pleasure and pain at a later time," I should say, "Surely not in
any other respect than simply pleasure and pain: there isn't any
other way they could differ. Rather, like someone who is good
at weighing things, add up all the pleasant things and all the
painful, and put the elements of nearness and distance in the
scale as well, and then say which are the more. For if you
weigh pleasant things against pleasant, you always have to take
the larger and the more, and if you weigh painful against
painful, you always have to take the less and the smaller (ibid.).
Among the many themes in the dialogue, we find two recurrent
questions which apply to Smith's ultimate choice of methodology: (1)
In our assumptions about human behavior, how do we treat the phe-
nomenon that individuals sometimes succumb to their own immediate
wants and thus fail to maximize their more general, long-term interests?
and (2) In our assumptions about the coincidence of individual and social
interests, can we assume that individuals in following their own interests
automatically maximize the interests of society as a whole? In Plato's
(or Socrates's) view, individuals only do "wrong" through ignorance.
Upon rational reflection they see and accept the appropriate and
particular role they are destined to play in society. This role in turn will
maximize the good of all. A contrasting view is put forth by Protagoras
who speaks in the Atomist tradition of Epicurus and Democritus. He
claims that with proper education individuals can substantially improve
their arete; i.e., virtue or excellence. Moreover participation in

democratic decision-making can lead to better social choices than those
made by a ruling elite. It is not surprising that Protagoras would hold
this view. According to Diogenes Laertius, the philosopher Democritus
saw great promise in Protagoras who was a common porter and invited
him to become his student (Diogenes Laertius 1925, pp. 462-67; also see
Lowry 1987, p. 33). Smith is presumably familiar with this story
because he remarks that "the difference of natural talents in different
men is, in reality, much less than we are aware of.... The difference
between the most dissimilar characters, between a philosopher and a
common street porter, for example, seems to arise not from nature, as
from habit, custom, and education" (Smith 1776, /, ii, pp. 4, 5).
Smith's own answers to the questions of individual behavior and the
coincidence of individual and social interests are indecisive. On the one
hand Smith advocates freedom for individuals to maximize their own
welfare by making choices in free markets. But he is well aware of the
frivolous, unproductive uses to which goods can be put:
All other animals find their food in the state they desire it, and
that which is best suited to their several natures, and few other
necessaries do they stand in need of. But man, of a more
delicate frame and feeble constitution, meets with nothing so
adapted to his use that it does not stand in need of improvement
and preparation to fit it to his use....
The same temper and inclinations which prompted him to
make these improvements push him to still greater refinements.
This way of life appears rude and slovenly and can no longer
satisfy him; he seeks after more elegant niceties and refinement.
Man alone of all animals on this globe is the only one who
regards the differences of things which in no way affect their
real substance or give them no superior advantage in supplying
the wants of nature....
The four distinctions of color, form, variety or rarity, and
imitation seem to be the foundation of all the minute and to the
more thoughtful persons, frivolous distinctions and preferences
in things otherwise equal, which give in the pursuit more distress
and uneasiness to mankind than all the others, and to gratify
which a thousand arts have been invented... (Smith 1762-3, vi,
pp. 9-16).
With respect to the question of whether individual and social interests
coincide, one answer is that the unseen hand will guide the most self-
interested individuals to work for the good of all. Smith also observes,
however, that often the choices of individuals lead to an unproductive

resource allocation. Moreover, he observes that the incentives inherent
in the existing political and economic institutions are not always
conducive to economic growth and other conditions making for a better
society.
The tension between value-in-use and subjective evaluations by
individuals does not seem to be as strong to Xenophon. He seems to be
a more thorough-going utilitarian. In an extensive treatment of political
and administrative policy in Athens, he demonstrates a thorough
understanding of utilitarian calculation (Lowry 1987, ch. 3). But
Xenophon does acknowledge that the individual may succumb at times
to his immediate wants when such action is not always in his long-term
interests. For example, if one were to purchase a prostitute, one may be
made "worse in body, worse in soul, and worse in regard to one's
household [wealth]" (Xenophon 1970, /, pp. 9-13).
Aristotle clearly would not conflate the choices individuals make in
market situations with the community interest. For Aristotle the creation
of the state is natural and prior to the family and the individual. He
argues that:
Every state is a community of some kind, and every community
is established with a view to some good; for everyone always
acts in order to obtain that which they think good. But, if all
communities aim at some good, that state or political communi-
ty, which is the highest of all, and which embraces all the rest,
aims at good in a greater degree than any other, and at the
highest good (Aristotle 1984, Politics, I, 2030).
In Nicomadean Ethics, Aristotle distinguishes between "pleasure" and
"happiness." Happiness has to do with being in harmony with the
world. Pleasure has to do with narrow self-gratification (Aristotle 1984,
Nicomadean Ethics, X, p. 1179). Thus there is a difference in kind
between activities and goods that impart happiness and those that impart
pleasure.
Aristotle's long digression on the legitimacy of wealth-getting activities
is informative: "Getting wealth is the business of the manager of the
household and of the statesman." But it is their business only because
it is they who must "order the things which nature supplies": The
weaver does not actually make wool but he uses it. The manager of the
household employs the services of the physician in order to provide for
the health care of the members of the household for they "must have
health just as they must have life or any other necessity." The getting
of wealth, then, is "natural" when it is part of the process of providing
sustenance for life. "But strictly speaking, as I have already said, the
means of life must be provided beforehand by nature; for the business of
nature is to furnish food to that which is born, and the food of the
offspring is always what remains over of that from which it is produced.
That is why the art of getting wealth out of fruits and animals is always
natural" (Aristotle 1984, Politics, I, 1258 a 31-35).
In the history of value theory the idea that the natural value of goods
depends on their ability to provide sustenance appears and reappears in
many contexts. For now we should note that, for Aristotle, exchange
values that depart from their natural value and allow retailers to
accumulate wealth are unjust: "Wealth-getting" resulting from "retail
trade" is "justly censured; for it is unnatural, and a mode by which men
gain from one another" (ibid., 1258 b 2). In describing the art of
acquisition, Aristotle declares that it is natural when used in either of two
ways: in household management with the direct aim of providing the
necessities of life, or in public policy in providing things useful for the
community: "Of the art of acquisition...there is one kind which by
nature is a part of the management of a household, in so far as the art of
household management must either find ready to hand, or itself provide,
such things necessary to life, and useful for the community of the family
or state" (ibid., 1256 b 25-30). According to Aristotle there is a limit
to what is needed for life, and to practice the art of acquisition beyond
that limit is unjustified: The things necessary for life "are the elements
of true riches; for the amount of property which is needed for a good life
is not unlimited, although Solon in one of his poems says that 'No bound
to riches has been fixed for man.' But there is a boundary fixed, just as
there is in the other arts; for the instruments of any art are never
unlimited, either in number of size, and riches may be defined as a
number of instruments to be used in a household or in a state" (ibid.,
1256 a 1-10).
To be justified, then, acquisition, or wealth-getting must be directly
connected with providing food, clothing, or shelter. Aristotle uses the
example of a shoe. Its purpose is obvious: "A shoe is used for wear,
and is used in exchange; both are uses of the shoe. He who gives a shoe
in exchange for money or food to him who wants one, does indeed use
the shoe as a shoe, but this is not its proper use, for a shoe is not made
to be an object of barter. The same may be said of all possessions, for
the art of exchange extends to all of them.... Retail trade is not a natural
part of the art of getting wealth; had it been so, men would have ceased
to exchange when they had enough" (ibid., 1257 a 5-20). To Aristotle
"wealth-getting" by charging interest deserves further moral indignation:
"The most hated sort, and with the greatest reason, is usury, which
makes a gain out of money itself, and not from the natural object of it....
That is why of all modes of getting wealth this is the most unnatural"
(ibid., 1258 b 1-5). Over the centuries when Aristotelian scholarship
appeared in various reincarnations, the arguments concerning usury were
restated. The evils of seeking wealth for its own sake through com-
merce, especially through charging interest, were decried.
Generally, the true value of a good was related to its value-in-use; that
is, its ability to provide sustenance. But there are other themes in
Aristotle that speak more directly to the question of value-in-exchange
and that also have experienced various reincarnations over the history of
value theory. In the Topics, Aristotle has much to say about the relative
values of goods. In some passages he presents clearly the ideas of
diminishing marginal utility of commodities, diminishing marginal
productivity of inputs, and complementarity of commodities and inputs.
"A greater number of good things is more desirable than a smaller either
absolutely or when the one is included in the other" (Aristotle 1984,
Topics, III, 117 a 15).
Moreover, judge by the destructions and losses and genera-
tions and acquisitions and contraries of things; for things whose
destruction is more objectionable are themselves more desirable.
Likewise also with the losses and contraries of things; for a thing
whose loss or whose contrary is more objectionable is itself more
desirable. With the generations or acquisitions of things the
opposite is the case; for things whose acquisition or generation
is more desirable are themselves also more desirable (ibid., 117
b 3-10).
Moreover, judge by means of an addition, and see which when
added to the same thing makes the whole more desirable....
Again, a thing is more desirable if, when added to a lesser good,
it makes the whole a greater good. Likewise, also, you should
judge by means of subtraction; for the thing upon whose
subtraction the remainder is a lesser good may be taken to be a
greater good, whichever it be whose subtraction makes the
remainder a lesser good (ibid., 118 b 10-20).
IV. THE ARISTOTELIAN TRADITION

Modern historians of economic thought, we have noted, usually judge
the writings of contributors on the basis of what they added to modern
theory. Emil Kauder and Joseph Schumpeter provide excellent exam-
ples of this perspective, especially in their descriptions of the develop-
ment of the marginal utility theory. It is in this context that they criticize
Smith for his failure to contribute, indeed for his hinderance to, the
ultimate ascendancy of marginal utility theory. Even here, however, the
tension of our focus is evident. Consider Kauder's summary of the
Aristotelian tradition:
So Aristotle's economic thinking already contained a number of
concepts which have since become important elements in the
marginal utility theory. Yet for the next 1,600 years these
thoughts were not used. It was not before A.D. 1200 that
growing complications of market forms and the discussion of the
just price forced the medieval doctors to handle, at least partly,
the Aristotelian instruments.... The medieval doctors had not
improved the utility concept, but it was their great merit to keep
alive the Aristotelian theory and his discussion about value.
Their works and those of their teacher, Aristotle, were read by
the Italian and French economists of the seventeenth and
eighteenth centuries, who presented the first essential progress
since Aristotle (Kauder 1953, p. 650).
Through many of these periods, then, utility and value are often under-
stood not simply in terms of the individual but in terms of the general
welfare of the community.
Joseph Schumpeter credits later scholastic doctors such as Lessius
(Leonard de Leys 1554-1623), Luis Molina (1535-1600), and Juan de
Lugo (1583-1660) as having at least implicitly resolved the "paradox of
value" (Schumpeter 1954, pp. 97-100):
The Aristotelian distinction between value in use and value in
exchange was deepened and developed into a fragmentary but
genuine subjective or utility theory of exchange value or price....
First,... [they] made it quite clear that cost, though a factor in the
determination of exchange value (or price), was not its logical
source or "cause." Second, they adumbrated with unmistakable
clearness the theory of utility which they considered as the
source or cause of value. Molina and Lugo, for instance, were
as careful as C. Menger was to be to point out that utility was
not a property of the goods themselves or identical with any of
their inherent qualities, but was the reflex of the uses the
individuals under observation proposed to make of these goods
and of the importance they attached to these uses.... Third, the
late scholastics, though they did not explicitly resolve the
'paradox of value'—that water though useful has normally no
exchange value—obviated the difficulty by making their utility

concept, from the first, relative to abundance or scarcity (ibid,
p. 98).
The development of value theory based on subjective utility in Italian
thought began very early and had reached a high level of sophistication
prior to Smith. Bernardo Davanzati (1529-1606), who wrote primarily
on the subject of money (Legione delle Moneta, 1588), addressed and
resolved the paradox of value. Two hundred years later, utilitarians such
as Ferdinando Galiani (1728-1787) continued to develop the tradition.
Galiani defined value as the subjective equivalence of one good in terms
of another and argued that the objective values in the market might or
might not reflect these equivalences. He explained the resolution of the
paradox of value in terms which, except for the precision afforded by the
concept of marginal utility, very closely anticipated Jevons, Menger and
Walras. We should note in passing that Galiani, like Smith, after
explaining prices in terms of demand and scarcity, turns to labor when
he attempts to develop a more general standard of value. But unlike
Smith, and anticipating Ricardo and Marx, he explained value in terms
of the quantity of labor used in a commodity's production.
Several other eighteenth-century Italians contributed to the develop-
ment of value theory based on subjective utility. Count Pietro Verri
(1728-97) anticipated Jevons by working out the concept of a general
equilibrium based on the "calculus of pleasure and pain." Cesare
Bonesana, Marchese di Beccari (1728-94), whom Schumpeter calls the
Italian Adam Smith, was a leading proponent of utilitarianism. Although
Smith may not have been familiar with the works of all of the Italians,
he was certainly familiar with several of them. Indeed, as we argue, it
is more likely that Smith appreciated the Italian tradition as a major
contributor to the trend he believed to be in error.
Although the Italian tradition reached a higher level than was found
elsewhere, there were many other writers on the subject of money and
value who demonstrated an understanding of how utility and scarcity play
a part in determining market value. John Law (1671-1729) was one who
actually used the water and diamond paradox in explaining these
relationships. "Goods have a value from the uses they are applyed to;
and their value is greater or lesser, not so much from their more or less
valuable, or necessary uses, as from the greater or lesser quantity of
them in proportion to the demand for them, example; water is of great
use, yet of little value; because the quantity of water is much greater than
the demand for it. Diamonds are of little use, yet of great value,
because the demand for diamonds is much greater, than the quantity of
them" (Law 1705, p. 4).

As the evolution of the marginal utility theory of value progressed, so
did the tendency to identify the subjective wants of consumers as the sole
source of value-in-use. Of course there are many examples where the
dismissal of spurious arguments as to the "true value" of things did, in
fact, represent progress. But in the process of correcting such errors, the
Aristotelian tension between value-in-use and value-in-exchange was in
danger of being lost. Smith's more immediate predecessors reflect the
tendency to explain both value-in-exchange and value-in-use solely in
terms of the subjective wants of individuals. Major contributors were his
Scottish predecessors Gersham Carmichael (16727-1729) and Francis
Hutcheson (1694-1746), who attribute many of their ideas to Hugo
Grotius (1625) and Samuel von Pufendorf (Carmichael in Pufendorf
1724; Hutcheson 1747). Unquestionably their arguments were directly
influenced by the work of those authors.
Pufendorf describes value in terms of necessity, usefulness and scar-
city:
The natural Ground of the Common Value, is that Fitness which
any thing of Action has for supplying, either mediatley or
immediately, the Necessities of Human Life, and rendering the
same more easie or more comfortable.... Nature has been very
bountiful in providing plentiful store of those things. But the
rarity or Scarceness of things conduces chiefly to the enhancing
of their value (Pufendorf 1724, ch. 14).
Pufendorf makes reference to Plato: "Only what is rare is valuable, and
water, which is the best of things,...is also the cheapest" (Euthydemus).
Pufendorf s main theme here concerns the part that rarity or scarceness
plays in enhancing market value. Let us note also that when he describes
the demand side he emphasizes the "fitness" a thing has to provide the
"necessities of Humane Life." And although he seems to ascribe value
to things that merely render life more "comfortable," his main emphasis
is on the interplay between scarcity and usefulness or necessity.
Hutcheson describes the "natural ground of all value or price" as
"some sort of use which goods afford in life; this is prerequisite to all
estimation." Given this prerequisite, price is determined by scarcity of
"difficulty in acquiring." But when "there is no demand, there is no
price, were the difficulty of acquiring ever so great; and were there no
difficulty of labour requisite to acquire, the most universal demand will
not cause a price; as we see in the fresh water in these climates"
(Hutcheson 1755, 2, pp. 53-55). And yet Carmichael and Hutcheson
both acknowledge that the value-in-use of a good does not depend on its
being a necessity. According to Carmichael, value-in-use depends on
whether the good adds "to the utility or pleasure of human life." This
attribute can be "real or imagined" (Carmichael in Pufendorf 1724). For
Hutcheson the usefulness of a good depends not only on its being a
"natural subserviency to our support, or to some natural pleasure, but
any tendency to give any satisfaction, by prevailing custom or fancy, as
a matter of ornament or distinction" (Hutcheson 1755, 2, p. 53).
Our brief survey of value ideas prior to Smith makes several points
clear. Many of his predecessors use the water-diamond paradox or some
variation to explain the relationship among utility, scarcity, and price.
In the discussion of the nature of value in use and its relation to value in
exchange, increasing emphasis is being placed on the subjective character
of utility. Earlier ideas that trace "value in use" to a good's ability to
provide for basic subsistence needs are being submerged. While there
are many themes, there is also the dialectic we have described, a tension
between the idea of value in some deeper normative sense (that includes
a vision of the individual and the individual in society) and the idea that
value is determined by the subjective evaluations of individuals. When
the later idea is applied to neoclassical value theory, it includes the
corollary that the sole rationale of resource allocation within a market
system is the maximization of utility. That is utility defined in terms of
the subjective wants of consumers expressed as effective demand. In the
years immediately prior to Smith the trend among theorists was to focus
almost entirely on the latter argument.
V. SMITH'S USE OF VALUE-IN-USE AND

VALUE-IN-EXCHANGE
Smith not only revives the dialectic between the two theories of value,
it runs through all of his major themes in Wealth of Nations. We have
claimed that the reason he is reluctant to conflate value in use with the
subjective evaluations of consumers is because he defines value in use in
broader social terms. This claim rests on the argument that he has a
broader vision of society's goals from which economic goods and
activities can be evaluated. This broader vision and how it fits in with
other parts of Smith's overall theme can be summarized as follows.
As Smith begins Wealth of Nations the obvious raison d'etre of a
nation and its economic system is made clear. The "annual labour," or
rather the gross domestic product, provides all the necessaries and
conveniences of life. The institutional arrangements in some nations are
more conducive to economic growth than others.
The annual labour of every nation is the fund which originally

supplies it with all the necessaries and conveniences of life which
it annually consumes, and which consists always, either in the
immediate produce of that labour, or in what is purchased with
that produce from other nations.
According therefore, as this produce, or what is purchased
with it, bears a greater or smaller proportion to the number of
those who are to consume it, the nation will be better or worse
supplied with all the necessaries and conveniences for which it
has occasion. But this proportion must in every nation be reg-
ulated by two different circumstances; first, by the skill, dex-
terity, and judgement with which its labour is generally applied;
and, secondly, by the proportion of those who are not so
employed (Smith 1776, /, i, pp. 1-3).
The economic success of a nation depends on whether its institutions
allocate resources productively. In Smith's terms what matters is how
much of the "annual labour" is reinvested to employing productive rather
than unproductive labor (ibid., ///, i, p. 1).
The value in use of a good can be assessed in terms of its ability to
sustain productive labor. Obviously the services of a servant have no
lasting value in this regard. But particular subjects and vendible com-
modities with durable characteristics at least have the potential of being
used to underwrite productive labor (ibid., ///, i, p. 1). To reiterate, the
"use" values of goods and activities are assessed in terms of whether
they can be used to maintain productive labor. Exchange values which
reflect the subjective valuations of consumers might or might not reflect
these social, or "use," values. There are many types of markets and
they reflect many imperfections. But even were the subjective wants of
consumers reflected perfectly, the allocation to productive as opposed to
unproductive labor would not be adequate.
The institutions that determine income distribution in a society are
important to economic growth. Smith distinguishes between two types
of distribution: capital and revenue. Capital funds are those regularly
designated to be returned to the productive process where they support
productive labor. Revenue, which comes in the forms of rent or profit,
will be used as its recipients see fit. It may be used to support produc-
tive labor but, more likely, it will be used in unproductive pursuits. The
proportion, therefore, between the productive and unproductive hands,
depends very much in every country upon the proportion between that
part of the annual produce, which, as soon as it comes either from the
ground or from the hands of the productive laborers, is destined for
replacing a capital, and that which is destined for constituting a revenue,

either as rent, or as profit. "This proportion is very different in rich
from what it is in poor countries" (ibid, //, iii, pp. 6-7)
The values of the resources allocated do not depend on their owner's
motives. A "man of fortune" may have a "generous spirit" and spend
his revenue chiefly on hospitality. Or he may spend it on "frivolous
objects, the little ornaments of dress and furniture, jewels, trinkets,
gewgaws,..." which indicate "a base and selfish disposition." But it is
the accumulation of these latter goods which adds to the "public capital"
(ibid., //, iii, 32). Thus goods have value because they either directly
provide the basic necessities of life or they can be sold at some later date
in order that such provisions can be made. Moreover, the same basic
necessities can be consumed by either productive or unproductive labor.
"The consumption is the same, but the consumers are different" (ibid.,
//, iii, p. 14).
As the "publick capital" grows, so does the potential for further
growth. An implicit assumption is that the supply of labor available for
productive employment is elastic, at least within a significant range.
Ultimately, then, the value in use of a good relates to its direct or
indirect life-sustaining properties. But the value in exchange of some
goods and services "perish in the very instant of their performance, and
seldom leave any trace or value behind them" (ibid., //, iii, p. 2). The
property of providing for, or potentially providing for, one or more of
the basic necessities of life is a necessary and sufficient condition for
having real value. But for this value in use to be realized, it is necessary
that it be employed to sustain productive rather than unproductive labor.
Smith's value in use is similar to the definition of the Aristotelian
tradition which focused on a good's ability to provide for the basic needs
of life. Emphasis on this definition has led to confusion at various
periods in the history of value theory. Understandably, many value
theorists have felt it necessary to point out emphatically that such
attributes are not the only source of value. But Smith's emphasis on
value as a good's ability to provide for basic needs is somewhat
different. From the broader view, and from the view of assessing a
nation's wealth and potential for growth, the true value of commodities
and economic activities derives from their potential to maintain produc-
tive labor. Accordingly it is legitimate to think of value-in-use in this
way and to contrast it with the sometimes arbitrary and capricious values
which occur in the market.
The growth path of a nation depends significantly on how much of its
wealth is reinvested in the maintenance of productive labor. As noted,
the annual produce is divided into capital which is already destined to the
maintenance of productive labor and revenue which may or may not be

so reinvested. The proportion determines the growth path of the nation:
"Every increase or diminution of capital, therefore, naturally tends to
increase or diminish the real quantity of industry, the number of
productive hands, and consequently the exchangeable value of the annual
produce of the land and labour of the country, the real wealth and
revenue of all its inhabitants" (ibid., //, iii, p. 13). Thus we see the
broader social context in which value-in-use can be defined. It is not
that Smith cannot understand that the subjective evaluations of consumers
determine effective demand and in turn market prices, or value-in-
exchange. But Smith cannot bring himself to conflate the latter with
value-in-use.
Any sensible account of how consumer choices are related to market
prices must acknowledge that it is subjective valuations that count.
Discussions of the real, true, natural, or social value of goods only serve
to clutter up explanations of how consumer choices are related to market
prices. But social values and market values may or may not coincide.
Thus in the history of value theory we are left with this dialectic in
various forms. The modern version of this dialectic between individual
and social value takes the following form: Economic systems populated
primarily by free competitive markets, if left to their own devices, will
allocate resources to the production of those goods and services consum-
ers, as consumers, want most. Investment in the private sector is driven
by firms anticipating future consumer wants. But there are social wants
as well. We are aware that there is a whole gamut of social and quasi-
social goods: defense, the environment, education, health care, transpor-
tation, as well as the question of economic growth. What standard are
we to use when evaluating economic goods and activities in social terms?
The standard of social value Smith would have us use is their potential
to enhance economic growth, specifically how they facilitate the
employment of productive labor.
Smith's derailment of value theory from its journey was accidental in
some respects and intentional in others. He did not intend to delay
progress towards the marginal utility theory and the explanation of
effective demand in terms of the subjective wants of consumers. He did
intend to derail acceptance of the idea that market prices could represent
social as well as individual values.
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Beccaria, Marchese di, Cesare Bonesana. 1764. La Massimo. Felicita
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Davanzati, Bernado. 1588. Legione Delle Moneta.
Diogenes, Laertius. 1925. Lives of Eminent Philosophers, translated by
R. D. Hicks, Harvard University Press, Cambridge, Massachusetts.
Douglas, Paul. "Smith's Theory of Value and Distribution," Adam
Smith 1776-1926; Lectures to Commemorate the Sesquicentennial of
the Publication of "Wealth of Nations," edited by J. M. Clark,
University of Chicago, Chicago, 1928.
Galiani, Ferdinando. 1751. Delia Moneta.
Grotius, Hugo. 1625. Dejure Belli ac Pads.
Hollander, Samuel. 1973. The Economics of Adam Smith, University
of Toronto Press, Toronto.
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Hutcheson, Francis. 1747. Introduction to Moral Philosophy, Glasgow.
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Hutchison, Terence. 1988. Before Adam Smith, Basil Blackwell, Ox-
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Kauder, Emil. 1953. "Genesis of the Marginal Utility Theory," Eco-
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Ricardo, David. 1951. The Works and Correspondence of David Ri-
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to the Theory of Value," Economic Journal, 181-98.
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Smith, Adam. 1751-2,1762-3,1766. Lectures on Jurisprudence, edited
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Nations, edited by R. H. Campbell, A. S. Skinner, and W. B.
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Verri, Count Pietro. 1760. Elementi del Commercio.
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Xenophon. 1970. Oeconomicus, translated by Leo Strauss, Cornell
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DERAILING VALUE THEORY:

ADAM SMITH AND THE

According to most interpreters, this presentation of the paradox of

Journal of the History of Economic Thought, 15, Fall 1993.

otage, value theories proceeded off in several directions at once. When

the society, whether it is in an advancing, stationary, or declining

II. THE PARADOX

jective evaluations of individuals, the choices they make in market

III. THE GREEKS

sophist Protagoras. As the concept and proper societal role of the

their arete; i.e., virtue or excellence. Moreover participation in

however, that often the choices of individuals lead to an unproductive

IV. THE ARISTOTELIAN TRADITION

exchange value—obviated the difficulty by making their utility

them" (Law 1705, p. 4).

V. SMITH'S USE OF VALUE-IN-USE AND

The annual labour of every nation is the fund which originally

replacing a capital, and that which is destined for constituting a revenue,

maintenance of productive labor and revenue which may or may not be

Jonathan Barnes, Princeton University Press, Princeton.

by Gersham Carmichael, Edinburg, 1724.

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