What is Utility?

The satisfaction or enjoyment a person obtains from consuming a good

1999 South-Western College Publishing

What is a Util?
A hypothetical unit used to measure how much utility a person obtains from consuming a good

1999 South-Western College Publishing

What is Marginal Utility?

The change in total utility a person derives from consuming an additional unit of a good

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What is Total Utility?

The total number of utils a person derives from consuming a specific quantity of a good

1999 South-Western College Publishing

TU and MU
Q 0 1 2 TU 0 10 18 10 8 MU

3
4

24
28

6
4

5
6 7

30
30 28

2
0

-2

What is the Law of Diminishing Marginal Utility? As more of a good is consumed, at some point, the marginal utility a person derives from each additional unit diminishes

Does the Law of Diminishing Marginal Utility apply to all goods consumed?

YES
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Total Utility

Quantity

8
8

TU

Marginal Utility

9 MU
9

Demand Curve
P1
P2 Q1

Q2

D
10

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Why does

MU = P
explain the downward sloping demand curve?

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If you are hungry for a hot dog, how many hot dogs will you buy?
Up to where your

MU = P
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Why?
Because if MU > P you will buy another hot dog If MU < P you will not buy that last hot dog
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At P1, consume to Q1, since MU > P up to that point, at P2, consume to Q2, etc.

P1
P2

MU
Q1 Q2
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14

Consumer equilibrium
Now go from 1 good to 2 or more goods: have to take prices of good into account

Consumer equilibrium condition

Purchase X and Y in amounts such that MU x = Px MU y Py

Why? 1

Assume you are not in equilibrium say that

MU x > MU y Px Py What would you do??

Purchase more of X (due to its greater satisfaction per dollar), and less of Y
But more of X reduces MUX and less of Y increases MUY so we are heading back to equilibrium!!

For more than 2 goods, the equilibrium condition becomes..

MUx/Px = Muy/Py = Muz/Pz = .for all goods

In other words, when is your Total Utility maximized?

When the last dollar spent on each good yields the same marginal utility
1999 South-Western College Publishing

Applications of Utility
The water-diamond paradox--why is water so cheap and diamonds so expensive?

MU due to abundance, diamonds the oppositePrice reflects marginal valuation, not totals

What statement do these sites make about the marginal utility of diamonds?
http://www.rostar.com
http://www.usdiamond.com

1999 South-Western College Publishing

The marginal utility of money?

Does it diminish as with goods?

Diminishing MU of money often used as an argument for progressive taxation.

What is Interpersonal comparison of utility?

A comparison of the marginal utility that different people derive from a good or a dollar

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Economists argue that we should avoid such interpersonal utility comparisons

The difference between the maximum amount that a consumer is willing to pay for something and what he actually pays
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What is Consumer Surplus?

Consumer Surplus

P
Q 2

29

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What happens to Consumer Surplus as Market Price changes?

It increases when price falls and falls when prices increase

1999 South-Western College Publishing

 What is a Util? What is Utility? What is Marginal Utility?

What is Total Utility?

What is the Law of Diminishing Marginal Utility?

3 Curve? What is a Demand