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Why are Diamonds More Expensive than Water?

March 23, 2016 | Author: | Posted in company analysis, mathematics and economics

Why are Diamonds More Expensive than Water

An article by a certain B . Venkatesh entitled The diamond-water paradox ( HYPERLINK “http /www .blonnet .com /iw /2003 /01 /05 /stories /41300 .htm http /www .blonnet .com ) is really an interesting article on the nature of scarcity as a central theme in any discussion on economics . The diamond-water paradox , which posits the classic question of why diamonds are more expensive than water considering that the latter is more useful than the former , actually , is a classic problem usually posed to students of economics . The issue [banner_entry_middle]

is somewhat tricky but vital enough to warrant a serious discussion among the students of economics

The article is a good preliminary material for discussing the TCO1 which discusses the basic economic problem of scarcity , including the comparison and contrast in ways capitalism and socialism deals with the three fundamental economic questions of what to produce , how to produce and for whom to produce

The article ‘s central thesis on the utility and scarcity issue was posited through a hypothetical situation . Suppose a person is in the middle of a desert , and dying of thirst , what would this person choose if he is offered diamonds or a bottle of water . Of course in this situation , quenching his thirst would be far more important for the thirsty person than the most expensive piece of diamond in the world And in this particular situation , water would be more useful than the diamonds , which in economics refers to the utility of water being higher than that of diamonds

And suppose , the article further contended , the same person after quenching his thirst was again offered bottles of water , it is only natural that this time , the person ‘s demand for water will decrease . In economic theory , this would mean the marginal utility for water being diminished . And this time , the diamonds will suddenly have their importance being more urgent , and is suddenly more expensive that water .The marginalist theory of value in this instance clarifies this phenomenon by explaining that the usefulness of water as a whole affects price , and not the usefulness of one unit of water (as a whole or marginal utility . In other words , because water is in large supply , the marginal utility is low and therefore the price is proportionally low . Conversely , because diamonds are useful but scarcer each small unit of diamond is more useful than say , a bottle of drinkig water . The pain equivalent to the lost of one bottle of water , when he has a dozen for instance , is less intense when he lost a one diamond when he has only one . In this context , the marginal utility of water is lower than that of diamonds . This explain why diamonds are more expensive than water

Marginal utility Graph

But the prices of commodities , be it diamonds or water , have also other origin : namely , the intervention or non-intervention of governments depending on what particular economic system is in force

In a market or capitalist economy , resources… [banner_entry_footer]

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