Subjective Theory of Value

Without giving it much consideration, we all seem conditioned to believe that economic value must have an objective source and an objective measure. It makes many economists a little uncomfortable to consider that economic value and its measure resides entirely within the individual. Subjective value, however, represents the only logically consistent explanation for the source and measure of economic value.

I have described, earlier, some of the underlying concepts of the “Subjective Theory of Value.” In summary, individuals determine economic value subjectively and individuals establish their own measures of value based on subjective scales of preference. Individuals reveal their preferences, without precise units of measure, when they make an exchange.

These simple principles provide the basis for a complex system of individually determined values and individual actions that create a network of relationships we refer to as a market. I will describe many of these complexities, and how they relate to market activities in future posts, but, for now, I want to sketch out an hypothetical situation that I hope will help you relate to the role of subjective value in your own actions.

John wanders the streets of the art village in search of a picture to decorate his living room wall. He encounters a store called “The Same Price Art Store”. The sign in the window says, “All art the same price,” and it quotes a price well within his budget. He steps inside.

As he enters the store he is immediately impressed by the quality and selection of the art on display. Almost instantly, however, he notices some of the works that will not fit the decor of his home. He quickly sorts through the remaining selection and purchases an attractive landscape photograph.

So, what does this shopping experience have to do with economics, free markets, and value?

Shopping for artwork provides a good example of the real source and measure of value—and hopefully one to which you can relate.

First, John subjectively places relative values on all the art and ranks a particular piece of art above the rest. He has no other source for that value other than his personal likes.

Second, he has created a unique measure of value. He has a preference for a particular piece of art over all the others available at The Same Price Art Store. Since all pieces have the same monetary price, in this scenario, the money price plays no role in the choice of art. (I will explain the role of money in future articles.)

Fourth, by acting on his preference, he has created objective evidence—in the form of a price—of his preference. For the first time during his shopping trip observers can see, by John’s actions, that he prefers one particular piece of art more than the other works in the shop and more than whatever money he gave for the art.

This hypothetical example demonstrates how value originates with an individual and how the level of that value derives entirely from the ordinal preference scale of the individual.

Now, create your own example. See how, for you, every determination of value results from your own subjective judgment, and that you measure that value only in terms of your preference over alternatives available. Regardless of what sort of purchase or exchange you make—for fruit, smart phones, cars, clothes, or art—you alone determine what you value and how much (relatively).

Subjective value and ordinal preferences make quantitative economists rather uncomfortable. I will demonstrate in articles throughout this website that Subjective Value Theory provides the only logically consistent explanation for the establishment of economic value, and thereby provides a basis for understanding all economic activity.