Matt McIntosh, of Catallarchy wrote a new essay for TCS last week – in it he addresses diminishing marginal utility. You can read it here.

Let us say that I am poor and you are wealthy. I live a harsh life of bare subsistence farming, while you make several thousand dollars per day as a business owner in the widget industry. One day you hire me to make widgets for you at a rate of $1 per widget, which you then sell to make a profit of $2 per widget. Which of us has benefited the most from this exchange?

If you answered that it must be you, this is wrong. It’s true that you are still much, much better off than I am in absolute terms, and that in dollars, you have gained more than I have. But considering our relative starting points and the basic fact of diminishing marginal utility, this transaction has benefited me more than it has benefited you. Simply put, the principle of diminishing marginal utility states that each extra unit of a good provides less subjective benefit to an individual than the last one did: an extra dollar means much, much more to a pauper than to a millionaire. Thus I get much more subjective utility from the extra dollars I now have than you do from the extra dollars you have.

I think this lesson is important to remember in this day and age – especially when capital is largely free to flow throughout the world, from the wealthy, industrialized nations like the United States, and into the poorer, developing nations like China and India and Viet Nam and Malaysia, etc.

It’s important to remember that Nike or Abercrombie & Fitch don’t (that I’m aware of) steal children like gypsies in the night and force them into factory labor. People flock to the new factories to escape the much harder sustenance farming in which they had previously been engaged. Maybe they’ll be earning $1 an hour attaching soles to the new basketball shoes you’ve been eyeballing at the store.

What can this tell us about their previous employ? The principle of revealed preference indicates that the decision to migrate to the factory is made because they subjectively value that $1/hour more than whatever they were reaping at the market from farming or fishing. If the employees feel they will not benefit from the transaction, there is no reason to believe that they will accept the businessman’s proposition.

Comparing interpersonal utility, some might say, is a silly notion, so I’ll leave it be (besides, Matt addresses those concerns in the comments section at Catallarchy.) I’m not going to say that the poor man benefits more than the entrepreneur, or vice versa. But what remains is that both parties are better off than they were prior to the transaction. By how much and in what regards are decisions that are best (and most appropriately) weighed by the person(s) involved in the transaction.