Where Value Actually Comes From

Carl Menger and the idea that broke economics open. Article 1/27

Vienna. Spring, 1866.

A young journalist sits at the business desk of the Wiener Zeitung, Austria’s official newspaper, working through the morning’s market reports. His job is simple: track prices, report movements, explain what the market did today.

The problem is that the market isn’t doing what his economics professors said it should.

The textbooks were clear. Prices reflect the cost of production. Labour, raw materials, manufacturing — add them up, and you have value. It was orderly. It was mathematical. Adam Smith believed it. David Ricardo built a career on it. Karl Marx took it and constructed an entire theory of class warfare from it.

But sitting in that editorial office, watching the reports come in from the Vienna Stock Exchange — one of the most important in Europe — Carl Menger sees something else entirely. Traders aren’t talking about production costs. They’re talking about rumours. Expectations. Fear. Hope. The price of grain isn’t moving because the cost of growing it changed. It’s moving because people think something is about to happen. The market price, as one contemporary handbook put it, was determined by “multiple emotions, conjectures and opinions, hopes and fears.”

The professors had it backwards. Value didn’t flow from production up to the consumer. It flowed from the consumer’s mind down to everything else.

Menger went home and spent four years writing a book about it.

The Man

Carl Menger was born in 1840 in Neu-Sandez, Galicia — a backwater of the Austro-Hungarian Empire, now southern Poland. His father was a lawyer. He studied law himself, earned a doctorate from Kraków, wrote serialised novels and comedies for newspapers as a young man, and had the kind of restless intelligence that couldn’t stay in any one lane for long.

He never quite fit the academic mould — which may be why he saw what the academics missed. He was a renowned bibliophile who read everything, questioned everything, and had the specific frustration of a man trained in theory who spent his days watching reality refuse to cooperate with it.

He had one son, Karl, who became a celebrated mathematician. He never married the boy’s mother, Hermine Andermann — probably because he was Catholic and she was Jewish, and Vienna in the 1870s was Vienna in the 1870s.

In 1876 he was appointed personal tutor to Crown Prince Rudolf of Austria, travelling with the heir to the Habsburg throne across Europe for two years. Rudolf would later die in the Mayerling Affair — an apparent murder-suicide that shook the empire to its foundations. Menger outlived him by thirty years.

The book he published in 1871, Principles of Economics, almost nobody read. He died in 1921, long enough to witness everything he predicted come true, but not long enough to see anyone important admit it.

The Book

Principles of Economics — Grundsätze der Volkswirtschaftslehre — is a slim, precise, quietly revolutionary work. Menger opens it with a statement that sounds almost too simple: “All things are subject to the law of cause and effect.”

Then he follows that principle further than anyone before him had dared.

The central question is: where does value come from? The classical economists said it came from production — from the labour and materials that went into making something. Menger said this was exactly wrong. Value doesn’t come from the past. It comes from the future. Specifically, from a person’s expectation that a good will satisfy a need they have right now, given the alternatives available to them right now.

This is what he called subjective value theory. Not a technical adjustment. A complete demolition of the foundations the entire classical tradition was built on — including the foundations Marx was using to argue that capitalists stole value from workers.

Marginal Utility — Explained Simply

This is the concept that everything else in Austrian economics rests on. Take a few minutes to properly understand the concept.

Menger introduced the idea of marginal utility — the value of one more unit of something, given how much of it you already have.

Here’s a concrete example straight from the Principles. Imagine a farmer with five sacks of grain. He ranks his uses in order of importance:

• Sack 1 — keeps his family from starving

• Sack 2 — feeds the livestock through winter

• Sack 3 — seeds next year’s crop

• Sack 4 — brews beer for himself

• Sack 5 — feeds it to the pigeons

Now ask: what is the value of one sack of grain to this farmer?

The classical economists would say: calculate the labour that went into producing it. Menger says that’s the wrong question entirely. The value of one sack to this farmer is whatever the least important use he’d have to give up if he lost one. Not the most important — the least. Because if he loses a sack, he doesn’t give up feeding his family. He gives up feeding the pigeons.

That last sack — the marginal unit — determines the value of all the grain he holds.

This is why water is cheap and diamonds are expensive under normal conditions. We have so much water that the marginal unit — the next glass — barely matters. We have so few diamonds that each additional one is still precious.

The same logic in reverse: strand a man in the Sahara with no water and a pocketful of diamonds, and the ranking flips instantly. The water becomes everything. The diamonds become paperweights.

The object hasn’t changed. The circumstances have — and value lives in the circumstances, not the object.

What about this was so groundbreaking at the time?

Subjective value means prices can never be “wrong” in the way politicians mean. When a government says housing is “too expensive,” it’s announcing that it knows better than every buyer and seller in the market what the price should be. Menger’s framework shows why that’s not just arrogant, it’s incoherent. The price is the aggregated subjective judgement of everyone participating. Override it, and you don’t get a better price. You get a shortage.

Value flows from consumers backward, not from producers forward. A factory that makes something nobody wants produces nothing of value, no matter how much labour went into it. This is why the Soviet Union could have full employment and empty shelves simultaneously. Production without reference to consumer preference isn’t economics — it’s waste with extra steps.

Both sides always gain in voluntary exchange. If I trade you something I value less for something I value more, and you do the same — we’ve both made ourselves better off without taking anything from anyone. Every voluntary transaction in a free market is a positive-sum game. Menger saw this clearly in 1871. Most politicians still haven’t.

What Menger Actually Did

It’s worth stepping back and recognising how much weight that one insight carries.

Before Menger, economics was built on the assumption that value was something out there in the world — embedded in objects, determined by production costs, measurable from the outside. Smith believed it. Ricardo built his entire system on it. Marx weaponised it. The labour theory of value wasn’t a fringe position. It was the foundation of the dominant school of thought in the entire Western world.

Menger didn’t tweak it. He inverted it.

Value isn’t in the object. It’s in the relationship between the object and a specific person, with specific needs, at a specific moment. It flows from the consumer backward through the economy — not from the factory forward. A badly written book represents enormous labour and zero value. A glass of water can be worth more than a diamond or worth nothing at all, depending entirely on where you’re standing.

This reversal has consequences that take decades to fully unpack. If value is subjective and marginal, then prices aren’t distortions of some underlying reality — they are the reality, constantly updated, constantly personal. The economy isn’t a machine with correct settings that experts can dial in. It’s millions of human beings making millions of individual judgements every hour, and the prices that emerge from their voluntary exchanges are the only honest record of what anything is actually worth to anyone.

Menger saw all of this clearly in 1871. He published it in a book almost nobody read. He waited.

The two young economists who did read it — Eugen von Böhm-Bawerk and Friedrich von Wieser — understood immediately what they were holding. Böhm-Bawerk in particular took Menger’s foundation and asked a question Menger hadn’t fully answered: if value is subjective and rooted in the present, what does that mean for capital? For saving? For the relationship between today’s choices and tomorrow’s prosperity?

That question — and the answer Böhm-Bawerk built for it — is where this story will lead us next, but Menger wasn’t quite finished just yet... he also had some thoughts about money, which we will explore in Article 02.

“Value does not exist outside the consciousness of men.” — Carl Menger, Principles of Economics, 1871