CHAPTER 30 Utility
Utility refers to the pleasure or satisfaction that individuals get from the economic activity.
It is the satisfaction derived from the consumption of a good or service. It is subjective in
nature and differs from person to person, place to place and time to time.
All those goods and services which have the capacity to satisfy human wants are said to
contain utility.
Total utility
The overall satisfaction that is derived from the consumption of all units of a good over a
given time period.
Marginal utility
The additional utility derived from the consumption of one more unit of a particular good.
In other words, it is the ratio of change in total utility with the change in units of
commodity (normally one unit).
Relation between Total utility TU and Marginal utility MU
-When marginal Utility is positive, Total Utility will be increasing at decreasing rate
- When marginal Utility is zero, Total Utility will be maximum
- When marginal Utility is negative, Total Utility will be decreasing
The law of diminishing marginal utility states all other things constant, as a person
consumes more of a good or a service, the marginal utility from each additional unit
of that good or services declines.
The above law is based on certain assumptions like
• The consumer should be rational
• Units of products are homogenous
• No time gap between consumption
• Taste, habit of consumer remain the same
• Units of consumption are suitable in size
Based on the above assumptions, the law of diminishing marginal utility can be explained
with the help of the following schedule.
In the above table, there are three forms of marginal utility positive, zero and negative. Up
to 5 units of consumption, marginal utility is decreasing but positive.
When consumers consume the 6th unit of the commodity, there is zero marginal utility to
the consumer and total utility is at maximum.
After 6th unit, if consumer keeps consuming and consume 7th unit of the commodity the
marginal utility will be negative and total utility start declining.
, It is clear from the above figure when the consumer consumes the 6th unit of goods, MU
decreases to zero and total utility TU become maximum. After 6 th unit, if consumer keeps
consuming and consume 7th unit of the commodity the marginal utility is in negative and
total utility start declining.
Importance of Law of Diminishing marginal utility
Law of diminishing marginal utility is the basic of many economic laws like law of demand
and law of substitution. It is the basis for price determination and consumer spending.
Law of Equi Marginal Utility helps to explain consumer behaviour in the case of more than
one good or service. There is no limit to human wants, but the income to satisfy those
wants is limited. So, the law of equi -marginal utility explains how a consumer allots their
limited income to various goods and services to attain maximum satisfaction.
Explanation
To get maximum satisfaction, a consumer needs to compare the satisfaction they get from
each dollar spent on different goods. Or, the consumer needs to spend the income in a way
that the marginal utility of all the things is equal.
Suppose the dollar spent on one product gives the buyer more satisfaction than the same
dollar spent on another product. In that case, the buyer will continue to spend on the
former product until the satisfaction from the last dollar spent on the two products is
equal.
The law of substitution/ equi- marginal utility states that a consumer spends his limited
income on two or more goods in such a way that the ratio of marginal utility to the
price of each commodity should be equal and should be equal to the marginal utility
of money.
Utility refers to the pleasure or satisfaction that individuals get from the economic activity.
It is the satisfaction derived from the consumption of a good or service. It is subjective in
nature and differs from person to person, place to place and time to time.
All those goods and services which have the capacity to satisfy human wants are said to
contain utility.
Total utility
The overall satisfaction that is derived from the consumption of all units of a good over a
given time period.
Marginal utility
The additional utility derived from the consumption of one more unit of a particular good.
In other words, it is the ratio of change in total utility with the change in units of
commodity (normally one unit).
Relation between Total utility TU and Marginal utility MU
-When marginal Utility is positive, Total Utility will be increasing at decreasing rate
- When marginal Utility is zero, Total Utility will be maximum
- When marginal Utility is negative, Total Utility will be decreasing
The law of diminishing marginal utility states all other things constant, as a person
consumes more of a good or a service, the marginal utility from each additional unit
of that good or services declines.
The above law is based on certain assumptions like
• The consumer should be rational
• Units of products are homogenous
• No time gap between consumption
• Taste, habit of consumer remain the same
• Units of consumption are suitable in size
Based on the above assumptions, the law of diminishing marginal utility can be explained
with the help of the following schedule.
In the above table, there are three forms of marginal utility positive, zero and negative. Up
to 5 units of consumption, marginal utility is decreasing but positive.
When consumers consume the 6th unit of the commodity, there is zero marginal utility to
the consumer and total utility is at maximum.
After 6th unit, if consumer keeps consuming and consume 7th unit of the commodity the
marginal utility will be negative and total utility start declining.
, It is clear from the above figure when the consumer consumes the 6th unit of goods, MU
decreases to zero and total utility TU become maximum. After 6 th unit, if consumer keeps
consuming and consume 7th unit of the commodity the marginal utility is in negative and
total utility start declining.
Importance of Law of Diminishing marginal utility
Law of diminishing marginal utility is the basic of many economic laws like law of demand
and law of substitution. It is the basis for price determination and consumer spending.
Law of Equi Marginal Utility helps to explain consumer behaviour in the case of more than
one good or service. There is no limit to human wants, but the income to satisfy those
wants is limited. So, the law of equi -marginal utility explains how a consumer allots their
limited income to various goods and services to attain maximum satisfaction.
Explanation
To get maximum satisfaction, a consumer needs to compare the satisfaction they get from
each dollar spent on different goods. Or, the consumer needs to spend the income in a way
that the marginal utility of all the things is equal.
Suppose the dollar spent on one product gives the buyer more satisfaction than the same
dollar spent on another product. In that case, the buyer will continue to spend on the
former product until the satisfaction from the last dollar spent on the two products is
equal.
The law of substitution/ equi- marginal utility states that a consumer spends his limited
income on two or more goods in such a way that the ratio of marginal utility to the
price of each commodity should be equal and should be equal to the marginal utility
of money.
