What is the Labor Theory of Value?

The labor theory of value says that the value of a finished good correlates solely with the number of labor hours required to produce it.

How Does the Labor Theory of Value Work?

Economist Adam Smith, the founder of the idea of modern capitalism, first conceived of the labor theory of value in the second half of the 18th century -- the time of the industrial revolution. By the mid-1800s, political economist Karl Marx, the founder of communism, suggested that the marked-up price of goods above and beyond their labor cost resulted in the exploitation of workers.

Marx touted the labor theory of value as the exclusive basis for determining the market price of goods. In other words, any two goods requiring an identical number of labor hours to produce them should have the same market price. For example, if an 18-karat gold filigree bracelet and an electronic toy car each require 10 hours to complete, both should have the same price.

Why Does the Labor Theory of Value Matter?

The labor theory of value is ineffective on a practical level because it fails to account for materials costs, workers' skill levels, or capital usage and depreciation costs. In addition, it ignores the effect of varying consumer demand for different types of goods.

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