Sunday, March 20, 2011

The Diamond-Water Paradox

William L. Anderson writes in 2000 on The Freeman:

In Praise of Athletes High Salaries

While teaching in public schools many years ago, I found that almost all teachers believed they were underpaid and underappreciated. Things probably have not changed. My colleagues expressed their sentiments by hanging a newspaper editorial on a bulletin board in the teachers’ lounge that condemned the high salaries of professional athletes.

“Americans do not value education,” the editorial opined, citing as proof the fact that “a mediocre halfback in the NFL” was paid more than three times the average teacher’s salary. The statement had its desired effect, judging from my colleagues’ responses to the disgruntled editorial writer. 
The message was clear: Americans have their priorities wrong. If they truly valued education more than professional sports, teachers would be paid more than professional athletes. People recoil at the high salaries players receive, salaries that seem to be out of kilter with what the rest of us earn. In an extreme example, Michael Jordan was paid $36 million to play his last season with the Chicago Bulls of the National Basketball Association. Even most medical doctors fail to earn such a sum during their entire working lives. That athletes are much better paid is prima facie evidence that people in this country have no appreciation for what is really important. Thus the state should force the right values on us.
Even while more and more Americans attend professional athletic events, the athletes and their sports are under greater attack. Furthermore, the off-field behavior of many athletes—including the commission of serious crimes in some well-publicized cases—allegedly demonstrates that we should not be paying great sums of money to people who are not proper role models for our children.

Some of the details of the editorial are true. In fact, the gap between the average salaries for teachers and professional athletes in the last two decades has grown considerably. Yet, incredible as it may sound to the average person, this is a positive sign. Far from being an indication that people are worse off, the explosive growth in the salaries of professional athletes, as well as the overall surge of professional sports, demonstrates that individuals—including teachers—have become more prosperous.

Such a statement flies in the face of conventional understanding. After all, macroeconomic statistics like the consumer price index allegedly tell us that real incomes have fallen for the past three decades. Not only is it difficult to argue against such numbers, but for those of us who believe in limited government, there is also a dark satisfaction gained by showing that living standards are down as government intervention in the economy has increased.

The Power of Economic Analysis

The praxeological tools of economic analysis (Ludwig von Mises’s term for the science of human action is praxeology), however, are much more powerful than numbers created by the U.S. Department of Labor, and while we would like to be arguing that the expansion of the state in recent years has meant an absolute decline in living standards, perhaps there is another case to be made. We should be telling the world that free-market capitalism has succeeded despite the ubiquitous intrusions of government.

To understand how the increases in the salaries of professional athletes demonstrate that all of us are better off, we turn to an old issue: the diamond-water paradox. In The Wealth of Nations, Adam Smith asked why a diamond could fetch much more money in the marketplace than could water, despite the fact that water was much more necessary for human existence.

The solution to the paradox came from the “marginalists” of the mid and late nineteenth century, including Carl Menger of Austria, William Stanley Jevons of England, and Jules Dupuit of France. Value, they astutely pointed out, is determined by the usefulness of the marginal available unit of the item in question, or marginal utility. An individual imputes value to a particular unit of water, not to the overall characteristics of water itself.

Because water is plentiful and diamonds are scarce relative to water, in normal cases a unit of water will not be valued as highly as a diamond. However, if someone were wandering in the desert, dying of thirst, he might very well be willing to trade a beautifully cut diamond for a canteen full of water!


Denise Cayman said...

Sports athletes join the upper echelon of high profile society members with the cash and influence. A lot of them can afford the priciest jeweller melbourne items. Socialties indeed.

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