They can justly reply that at least they know the difference. It matters a lot for those involved in the housing and investment markets.

Keynes famously pointed out that practical men and women are usually the slaves of defunct economists. Bear with me if I tease this out over economists’ theory of value. You’ll see from the many examples in this column that it matters.

At an early stage in the development of economic theory – say beginning with Adam Smith – economists puzzled over the determinants of the prices of things. At one stage they made a distinction between ‘use value’ and ‘exchange value’. We don’t use those terms so much today but that is where the expression ‘the theory of value’ comes from. It would be better to describe it as the theory of price, but we are stuck with the historical phrase. I am going to use the current terminology comparing ‘objective value’ with ‘subjective value’.

The objective theory of value holds that the value of an object, good or service, is ‘intrinsic’, so that it can be assessed by objective measures. The labour theory of value (wage) – that the value of something reflects the amount of labour that is in it – developed by David Ricardo and used by Karl Marx in the nineteenth century, is the best-known example of this theory.

However, late in the nineteenth century, William Jevons (England), Carl Menger (Vienna) and Léon Walras (Lausanne, Switzerland) developed, almost in parallel, a subjective theory of value. Here an item’s value/price is not dependent on any inherent property of the good but on the consumers’ wants and needs. The modern subjective theory of value is the critical difference between classical economics and neoclassical economics and is the workhorse for most of today’s economists, underpinning their analysis of supply and demand. (Note that neoliberal economics is quite different from neoclassical economics, although it too is based is on the subjective theory of value.)

The subjective theory of value offers a solution to the classical economics puzzle of why diamonds are so much more expensive than water despite water being necessary for life. The key difference here is that water is plentiful and diamonds are rare. Because of the availability, one additional unit of diamonds exceeds the value/price of one additional unit of water, even though the total value of water to the community exceeds the total value of diamonds.

So, deep in an economist’s training is the idea that the price of something reflects the outcome of supply and demand and there is nothing special about it. For example, in various occasions in our history many economists thought the exchange rate should be devalued – and most of those who disagreed did so for technical reasons – rather than that there was an inherent value to the New Zealand currency compared to other currencies in the world.

Probably most of the population disagreed, thinking there was an inherent relativity. In the 1930s and long after, there was a view that the New Zealand Pound should equal the British Pound sterling. In 1933, one Minister of Finance even resigned when Cabinet overruled him.

Another example from the period is that histories of the Great Depression frequently mention that public sector wages were cut 10 percent by government fiat. They don’t mention that consumer prices had fallen by the same amount. The historians are thinking in terms of wages (the price of labour) having an inherent value; the economists are thinking in terms of supply and demand. Keynes pointed this out when he wrote about the downward stickiness of wages – the reluctance of workers to take nominal wage cuts.

You sometimes see demands for wage increases framed in terms of the belief that the workers involved should be paid what they are ‘worth’. It is an appeal to an intrinsic theory of value. In fact, most workers are worth (in a social sense) more than their pay, just as most water is worth more than the price you pay for it.

We get into the same muddle over housing. If I ask you what your house is worth, you will probably answer by giving your estimate of the price it should sell at. However, if the price of housing falls, you are likely to hang onto that old price. When house prices fell in 2009 as a part of the adjustment following the Global Financial Crisis, sellers said that they sold below what their house was worth. The same people were unlikely to mention that when they bought their new homes the price they paid was also lower than the ‘worth’ on the same criteria.

That is why I am more doubtful than many economists that the price of housing will fall markedly. They are applying supply and demand considerations; I think homeowners have an intrinsic assessment of their homes and will be as reluctant to cut the prices they sell them at, just as they would be reluctant to take a nominal wage cuts. Sure, there will be some distress selling; some will have to sell for various reasons such as they have to move or they can’t service the mortgage. But I am doubtful that will generally depress housing prices much.

That means that people who hope to purchase first homes will stillfind it a challenge; the likely fall of house prices will not be enough to correct the wealth imbalance from the house price boom. In an earlier column I argued that we had three broad housing problems: we have not built enough houses in the past decade (the supply problem); we have had a Minsky speculative boom in house prices; but that there wont be a Minsky bust because of attitudes to what homes are worth, so that it will remain difficult to purchase a first home. My bet that we shall see a lot of political activity trying to remedy the imbalance by way of assistance to first home buyers.

Do you think gold has an intrinsic worth? Many investors do which holds up the price of gold in a speculative bubble. The trick is to make a capital gain by flipping your holdings on to the next purchaser, who makes a capital loss on purchase, which they hope to recover (and more) when that flip it on to the next investor.

Speculating on bitcoins and the like is a similar gamble. Crytpocurrencies may have a role in future monetary systems as a mechanism for improving the medium of exchange, but that is not the same thing. If you want to gamble on bitcoin that is your thrill; the danger is – as for all gambling – if you borrow (or steal) to fund your recreational activity.

When you are looking at the various markets, supply and demand is a big help. But transactors are not as rational as the late nineteenth-century theory of subjective value assumed.

Exercise: Explain NFTs  (non-fungible tokens) in terms of objective and subjective value.