What Is Economic Value?
Economic value is a measure of benefits derived from a product or service. In free markets, it is the highest price a consumer is willing to pay for a particular product or service. This metric varies between one consumer and another. It is based on customer perception and buying behavior.
For a particular customer, a product could be more valuable than its market value. Market value is established by supply and demand. In contrast, economic value is gauged by how valuable something is to a certain individual, group of consumers, or target markets.
Table of contents
- Economic value is the actual benefits reaped by a consumer from a product or service. The value depends on the product’s impact on society and consumers.
- The actual benefit realized by a customer from a product, service, or brand is intangible and subjective. It depends on the usage and the consumer. Customer buying behaviors depend on limiting factors like a lack of time, money, or access.
- Each product has its customer base. Therefore, marketing teams focus on the particular target audience that acts in response to an advertisement.
Economic Value Explained
Economic value describes the actual benefit realized by a customer from a product, service, or brand. It is intangible and subjective; it depends on the usage and the consumer. This is why each product has its customer base. For advertising, marketing teams focus on the particular target audience, who might act (purchase) in response to the endorsement.
For example, an Android phone user might not value an Apple product. In contrast, an iPhone user closely follows the launch of new Apple products. An iPhone user might even be willing to pay a premium over an Android product just because they are accustomed to a particular brand.
Similarly, in funding rounds, equity is not entirely dependent on market price but on the investor’s perception, like their anticipated growth and belief in the startup, to determine the valuation of a new firm.
Manufacturers also try to determine the economic worth of their products to set a fair market price. This is more evident with new brands and new products. Early adopters purchase an unknown commodity only if they perceive that the economic worth of the new product is higher than its market price.
Quantifying the value of a product or service to a particular customer is challenging. First, the product’s value depends on the individual customer. It depends on personal choices and preferences. In addition, customers’ buying behavior depends on external limiting factors like a lack of time, money, or access.
To define the value of a product, many economists use the customer’s willingness to purchase as a criterion. If a consumer is more willing, they would be willing to pay more for the product, even overpay in extreme cases. Based on this criterion, products seem more valuable to customers if they offer benefits like adaptability, social status, loyalty, dependability, beauty, and trust. Thus, some products, like ‘gold,’ are considered valuable globally; they are always in high demand.
Now you can Master Financial Modeling with Wallstreetmojo’s premium courses at special prices
Best Financial Modeling Courses by Wallstreetmojo
Financial Modeling Course
* 12+ Hours of Video
Financial Modeling & Valuation
* 25+ Hours of Video
* Certificate of Completion
* 12+ Hours of Video
How To Estimate?
Now, let us discuss how to estimate economic value. First, it is classified as follows:
- Reference value – The consumer associates a product’s value with available alternatives. Customers try to differentiate a particular product from its alternatives; they compare different products to determine which one is more valuable. Thus, it is also referred to as differentiation value.
- Monetary Value – It refers to income or savings generated from a particular product.
- Psychological value – It refers to the personal satisfaction generated by possessing, using, and buying a particular product or service.
Let us look at some economic value examples to understand the concept better.
Luke inherits a vintage motorcycle from his grandfather. For Luke, this motorcycle has immense psychological value. When Luke rides out of his garage and takes it for a spin around the city, he experiences immense pleasure.
In addition, Luke experiences pride when he flaunts this motorcycle in front of his friends and colleagues. The value of a product depends on the customer; the value need not be tangible.
Now, the market value of the vintage motorcycle is on the rise. Therefore, Luke could gain a significant amount by selling the automobile. But Luke has no plans of selling, as it is more valuable to him than others. For Luke, the pleasure of riding surpasses its market price.
The market price of any commodity fluctuates depending on demand and supply. Also, the motorcycle has added value to Luke, as it reminds him of his grandfather. For Luke, it is even more valuable than other retro motorcycles.
Let us assume that Luke already owns a second motorcycle. When Luke inherited his grandfather’s automobile, he lost interest in the other bike.
Also, for Luke, it is a matter of utility. He cannot ride two automobiles at once. Due to the fun factor, Luke predominantly rides a vintage motorcycle. Meanwhile, his other ride gathers dust in the garage. After two months, Luke decides to sell the other bike.
Thus, depending on the time and external factors, the same customer may value a product more or less. For example, due to the new addition, Luke lost interest in his existing ride. But, previously, Luke valued the existing motorcycle more.
Economic Value vs Social Value vs Market Value
Now let us look at economic value vs social value vs market value comparisons to distinguish between them.
- Economic value is based on a customer’s preference and willingness to pay. In comparison, social value refers to growth in social status and likeability brought out by a product or service. In contrast, the market value depends on demand and supply.
- A product’s economic and social values can be higher than the market value.
- Economic and social values are intangible; they cannot be quantified. In contrast, the market value can be expressed in numbers.
- Market value is objective, as it is closely linked to empirical data. On the other hand, social and economic values are subjective.
Frequently Asked Questions (FAQs)
As soon as a customer purchases a product or service, they can reap some of its benefits immediately, called direct value. However, some products may have negligible immediate benefits but exhibit long-term benefits.
It is the opposite of direct value and offers benefits depending on the consumer’s behavior towards the product or asset. For example, a share bought today may not provide returns immediately. But in the long run, it has tremendous growth potential and possesses indirect value.
No, not necessarily. A product’s value is primarily gauged based on supply, demand, and scarcity. But a particular consumer may not need a specific product. In such scenarios, that product is not valuable to the consumer.
This article has been a guide to what is Economic Value. Here we explain its estimation, examples, and comparison with social and monetary value. You can learn more about it from the following articles –