What is Utility???

Psychological feeling of satisfaction, pleasure, happiness which is derived from consumption, possession or the use of a commodity is known as

Concept of Utility
Commodity Angle

Consumers Angle

Difference.
Commodity Angle
Utility is the want satisfying property of a commodity .

Consumers Angle
Utility is the psychological feeling of satisfaction from possession, consumption or use of a commodity. Utility is a postconsumption phenomenon. Utility varies from person to person and time to time.

Utility is absolute & ethically neutral in nature. Utility does not depend on the person using the commodity.

CONCEPTS OF UTILITY
Cardinal utility
1.Utility is cardinally or quantitatively measurable like weight, height, length, temperature and air pressure. 2.Utility can be assigned a cardinal number like 1, 2, 3 and so on.

Ordinal utility
1.Utility is not quantitatively measurable. No absolute terms can be assigned. 2.It can be measured only in relative terms or in terms of less than or more than.

Definitions
Total Utility: Sum of the utilities derived by a consumer from the various units of goods and services he consumes is called the total utility or TU.

Marginal Utility: Addition made to total utility resulting from the consumption of one additional unit is called as marginal utility or MU.

Cardinal Utility Approach of Consumer Behavior can be studied under:

Law of Diminishing Marginal Utility

Law of Equimarginal Utility

The Law of Diminishing Marginal Utility

As the quantity consumed of a commodity increases, the utility derived from each successive unit decreases, consumption of all other commodities remaining the same.

Total and Marginal utility No of units Total utility Marginal utility schedules
consumed

1 2 3 4 5 6 7 8

12 22 30 36 40 40 38 35

12 10 8 6 4 0 -2 -5

Diminishing marginal utility

TU & MU

TU

QUANTITY

MU

Why MU decreases???
When a consumer consumes additional units of a particular good at a point of time, his desire for every successive unit becomes less intense, consequently utility derived from each successive unit diminishes.

Assumptions to the law of Diminishing Marginal Utility

Various units of the goods are homogenous There is no time gap between consumption of different units Consumer is rational (has complete knowledge and maximizes utility) Tastes, preferences and fashions remain

Cardinal Utility Approach

What is consumer equilibrium?

A consumer is said to have reached his equilibrium position when he has maximized the level of his satisfaction with the available resources . A rational consumer consumes commodities in the order of their utilities and switches his expenditure from one commodity to the other as per their utilities.

Continued
When he reaches the stage when he no more shifts from one commodity to the other, it is known as consumers equilibrium.

Consumer equilibrium
A consumer is said to be in equilibrium (i.e. gets maximum satisfaction) if he consumes up to the point where the marginal utility of each unit of good equals per unit expenditure i.e MUx=Px(Mum)

Assumptions
Rationality Limited money income Maximization of satisfaction Utility is cardinally measurable Diminishing Marginal Utility

Continued
Constant Marginal Utility of money Utility is additive

Principle of Equi-Marginal utility

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. MUx Px = MUm

Where MUm= marginal utility of money expenditure MUx= marginal utility of good X Px= price of X

Marginal Utility Of Goods X & Y

UNITS 1 2 3 4 5 6 MUx (utils) 20 18 16 14 12 10 MUy (utils) 24 21 18 15 12 9

Let the prices of goods X & Y be RS. 2 & Rs. 3 respectively. Dividing MUx by 2 and MUy by 3 we get the following table. Again assume that the income of the consumer is Rs.24 to be spent on the two goods.

When will be the consumer in equilibrium ?

Marginal Utility Of Money Expenditure

UNITS 1 2 3 4 5 6 MUx/Px 10 9 8 7 6 5 MUy/Py 8 7 6 5 4 3

Thus the consumer will be in equilibrium when he is buying 6 units of good X and 4 units of good Y and will be spending: (Rs. 2 * 6+ Rs. 3 * 4) = Rs.24. Thus in equilibrium position: MUx MUy = = MUm Px Py

MU 3 > Px (Mum)

Consumer Equilibrium

MU 4 > Px (Mum) MU 5 > Px (MUm)

P

MU 6 = Px(Mum)

P x ( Mu m)

T LI T U L A N GRA M I I

MU x
3 4 5 6

QUANTITY OF GOOD X