Labor theory of value

The Labor theory of value (LTV) is an economics theory which states that the value of a commodity is proportional to the labor time necessary to produce it. The theory was used by classical economists including Adam Smith (1723-1790) and David Ricardo (1772-1823). Karl Marx (1818-1773) used a refined version of the Smith-Ricardo TVT in his own analysis of the capitalist economy. A formal Marxist statement of the theory is:

The value of a commodity is proportional to the average socially necessary labor time used in its production.

This includes the direct labor time -- for example the time a carpenter spends making a chair -- and the indirect labor time -- the labor time that was required to produce the materials (sawn wood, glue, etc.) the chair is made from and to produce the part of the carpenter's tools that is depreciated by making the chair.

In an economy of small, independent commodity producers the LTV results from the tendency of workers to move out of occupations in which the hourly income is low and into occupations in which the hourly income is high, and supply-and-demand which then tends to lower the price of goods produced in the high-income sector, those goods having become more abundant because more people are making them; and, conversely, tends to raise the price of goods in the low income sector because they become scarcer. This has the effect of equalising the hourly incomes of the various occupations. Since the price of a good in an economy of small, independent commodity producers is just the cost of materials and depreciation of tools, plus the amount the worker charges for his or her time, the price of the good is proportional to the labor time (direct and indirect) used in making it.

In a capitalist economy there is the added feature of the capitalist, whose profit must also be figured into the price of the commodity; however, if profit rates tend to equalize (profit / costs = a constant), the LTV will still hold.

Market imperfections will tend to make prices deviate from the LTV. Of particular importance in the present era is the fact that labor is relatively unable to move across international borders to seek the highest wage, while commodities and money move easily across borders. Under these conditions, commodities produced in low-wage countries tend to be undervalued relative to their embodied labor time, while commodities produced in high-wage countries are relatively overvalued.

The LTV is important in Marxist economics because it establishes the value of a worker's labor; and it can then be shown that workers in capitalism receive, in wages, less than that value. The difference, called surplus value, is kept by the capitalist and in this way the woking class is exploited by the capitalist class.