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Utility

The document discusses the concept of utility, which refers to the satisfaction derived from consuming a commodity, and outlines its various types including form, place, time, and possession utility. It also covers cardinal utility, the law of diminishing marginal utility, and the law of equi-marginal utility, explaining how these concepts relate to consumer behavior and pricing. Additionally, it addresses consumer surplus and the limitations of the cardinal approach to utility measurement.

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Aashish Jain
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2 views

Utility

The document discusses the concept of utility, which refers to the satisfaction derived from consuming a commodity, and outlines its various types including form, place, time, and possession utility. It also covers cardinal utility, the law of diminishing marginal utility, and the law of equi-marginal utility, explaining how these concepts relate to consumer behavior and pricing. Additionally, it addresses consumer surplus and the limitations of the cardinal approach to utility measurement.

Uploaded by

Aashish Jain
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Download as PDF, TXT or read online on Scribd
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UTILITY

Utility

• The amount of satisfaction which person derives from consuming a


commodity
• The power of commodity that satisfy human want is called as Utility

Features : 1) Utility is subjective entity


2) Utility is different from desire
3) Utility is different from satisfaction
4) Utility is different from usefulness
Types of Utility

• Form Utility : This utility is derived when you change a form of something
into a thing which satisfy your want. It involves the production of goods which
are ready for consumption so that it is beneficial to consumers. For example
we use wood for furniture.
• Place Utility : Utility is different from place to place. As sweater is having
utility at cold region then the hot region
• Time Utility : Utility is also created due to the change in time. For example
torch is having utility at the time of dark or night.
• Possession Utility :The possession utility means the utility derived from a
consumer when he owns a commodity. When someone purchase a product, he
pays for it and gets the ownership of that product. Thus the experience of
having the product is the possession utility.
Cardinal Utility

• Cardinal utility states that the level of satisfaction a consumer acquires after
consuming any goods and services can be measurable and expressed in
quantitative number.
• It was Alfred Marshall who first discussed the role played by the theory of
utility in the theory of value.
• Cardinal utility analysis assumes that marginal utilities decreases or
diminishes with each extra unit of consumption, known as Law of Diminishing
Marginal utility.
Law of Diminishing Marginal Utility

• The Law of Diminishing Marginal Utility means that the more of an item that
you use or consume, the less satisfaction you get from each additional unit
consumed or used.
• The Law states that the more we have of a commodity, the less we want to
have more of it as the utility derived from every success unit of the
commodity keeps on decline when more is consumed.
• Diminishing Marginal Utility can be explained with the help of following table
Cups of Tea consumed Total Utility Marginal Utility
Per day (Utils) (Utils)
1 12 12
2 22 10
3 30 8
4 36 6
5 40 4
6 41 1
7 39 -2
Maximum
utility

utility
Total
utility

0
quantity
Marginal
utility
Applications and Uses of Diminishing
Marginal Utility
• The concept of marginal utility is of crucial significance in explaining
determination of the prices of commodities.
• The concept of marginal utility has helped to explain the paradox of value
which troubled Adam Smith in The Wealth of Nations.
• According to the modern economists, the total utility of a commodity does
not determine the price of a commodity and it is the marginal utility which is
crucially important determinant of price.
• The law of diminishing marginal utility is often used to justify progreddive
taxes.
• The idea is that higher taxes cause less loss of utility for someone with a
higher income. In this case, everyone gets diminishing marginal utility from
money.
Law of Equi-Marginal Utility

• Law of Equi-Marginal Utility explains the relation between the consumption of


two or more products and what combination of consumption these products
will give optimum satisfaction.
• Marginal Utility is the additional satisfaction gained by consuming one more
unit of a commodity.
• The law of equi-marginal utility states that the consumer will distribute his
money income between the goods in such a way that the utility derived from
the last rupee spent on each good is equal.
MUm = MUx/Px
➢ Where MUm = marginal Utility of money
➢ Mux = marginal Utility of commodity of X
➢ Pm = price of commodity X
• Consumer is in equilibrium in respect of the purify there are chases of goods
X and Y.
• MUx/Px = MUy/Py = MUm
• More than two goods on which the consumer is spending his income, the
above equation must hold good for all of them.
Consumer Surplus

• Consumer’s surplus is simply the difference between the price that ‘one is
willing to pay’ and ‘the price one actually pays’ for a particular product.
• Marshall defines the consumer’s surplus in the following words; “ excess of
the price which a consumer would be willing to pay rather than go without a
thing over that which he actually does pay is the economic measure of this
surplus satisfaction…. It may be called consumer’s surplus.”
• Consumer’s surplus = What a consumer is willing to pay minus what he
actually pays
= ∑ Marginal utility – (Price * Number of units of a
commodity purchased)
No. of Units Marginal Utility Price Net Marginal
Benefits
1 20 12 8
2 18 12 6
3 16 12 4
4 14 12 2
5 12 12 0
6 10 12 -2
Consumer surplus

Producer
surplus
Limitation of cardinal approach

• Cardinal measurability of utility is unrealistic


• Hypothesis of independent utilities is wrong
• Assumption of constant marginal utility of money is not valid
• Marshallian demand theorem cannot genuinely be derived except in one
commodity case
• Cardinal utility analysis does not split up the price effect substitution and
income effect
• Marshall could not explain Giffen Paradox
• Cardinal utility analysis assumes too much and explain too little

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