"Water and Diamonds" Paradox

Topics: Supply and demand, Marginal utility, Economics Pages: 2 (539 words) Published: March 6, 2013
It is well known that natural resources (in this case water) are unseparable parts of our life & living without them will be 'almost' impossible! Despite it, economists are treating natural resources by concerning the economic values such as prices rather than values. To compare them, we can put on mind the The Diamond & Water Paradox, which was highly discussed in 18th & 19th century, and finaly resolved by Alfred Marshall and Adam Smith. The paradox is magically explained with an understanding of marginal utility and total utility. People are willing to pay a higher price for goods with greater marginal utility. As such, water which is plentiful has enormous total utility, but a low price because of a low marginal utility. Diamonds, however, have less total utility because they are less plentiful, but a high price because of a high marginal utility. Obviously, water is far more important to human beings than diamonds. In reference to that, diamonds are traded at the market place at the higher prices than water does. Price is set by supply and demand. Lets have a close look at this situation: • We know that market price is the price at which the amount supplied is also the amount demanded. In the case of water, the supply (at least in Marshall’s time) was so large as to exceed the amount that could possibly be demanded at any price. Consequently, the price was zero: water was free. So, SW (Supply of water)>DW (Demand of water) at any price (P) P=0 • Nowadays, the demand for water increased, because of the population growth and rising prosperity, while the supply has remained roughly constant. This conditions stated that water is no longer free!!. In refernce to the diamonds, as they are naturally scarce, the desire for ownership always exceeded what could be accommodated readily by the supply. SW (Supply of water)SD(Supply of diamonds) The market price was consequently high as a result of competition between rich people for the few diamonds available. Summing...
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