Water Diamond Paradox

Topics: Supply and demand, Economics, Marginal utility Pages: 3 (858 words) Published: February 23, 2013
One of the most famous puzzles in economic theory is why Diamonds are more expensive than water. In our case we consider GOLD in case of DIAMONDS. Water is essential for life; it is so useful that without its consumption one cannot live or survive. On the other hand, diamonds, though attractive and beautiful, satisfy less human important needs than water. Then, how it can be that in the market a less useful commodity like diamonds is so expensive and a useful commodity as water is very cheap. Some thinkers in the past therefore complained that something was wrong with the market system which determines high price of commodities such as diamond, gold etc. which are least useful and low price of a commodity such as water which is necessary and highly useful. Therefore, this came to be known as water-diamond paradox. However, for modern economists there is no paradox about it as they are able to explain the large price differential between water and diamond.

The notion of marginal utility or marginal benefit of a commodity and the concepts of consumer surplus based on it can be used to resolve the water-diamond paradox. The marginal benefit or marginal valuation per litre of water for the consumer is very low as the actual supply of water per period is large. On the other hand, the marginal utility or marginal benefit of diamonds is very high because the amount of diamond actually available is very small. If, in fact, only a few litres of water were available, marginal valuation of water would have been much greater than that of diamonds. Note that marginal valuation of a commodity reflects how much amount of money consumer is prepared to pay for a commodity. This indicates marginal utility or use value of the commodity for the consumer. It is worth noting that downward sloping demand curve for a commodity can be interpreted as showing the marginal valuation or marginal utility in terms of money to the consumer of various...
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