Marginalism

In economics, marginalism is the belief that economic value is set by the consumer's marginal utility.

The marginal theory of value was first broached in the 1870s, and it revolutionised economics. An earlier theory holds that the value of an item is a reflection of the work and resources devoted to making it, or the cost-of-production theory of value. Some economists, particularly many classical economists still believe this. Most Marxist economists also accept a version of the earlier theory, the labor theory of value.

Neo-classical economists accepted the marginal utility explanation for value and grafted this insight on to classical economics. Although the factors of production were still thought to be important, customer demand and the marginal benefits that they would obtain from a good is seen as the driver of the whole process and the ultimate source of economic value.

The Austrian School accepted marginalism more completely. They made a clear break from the factor input theories of value. They used marginal utility as a starting point in breaking away from the stress that other economic schools put on analysis of economic data. The Austrian economist Eugen von Böhm-Bawerk gave probably the most memorable description of the marginal theory of value, one often used by economics textbooks. Loosely translated it is:

A pioneer farmer had five sacks of grain, with no way of selling them or buying more. He had five possible uses - as basic feed for himself, food to build strength, food for his chickens for dietary variation, an ingredient for making whisky and feed for his parrots to amuse him. Then the farmer lost one sack of grain. Instead of reducing every activity by a fifth, the farmer simply starved the parrots as they were of less utility than the other four uses, in other words they were on the margin. And it is on the margin, and not with a view to the big picture, that we make economic decisions.

Karl Marx died before the marginalism theory came about. Thus the task of critiquing this theory fell to his followers, who still hold to the labor theory of value.