Diminishing marginal utility
| Diminishing marginal utility |
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Diminishing marginal utility is a concept in economics that describes the decrease in the marginal utility of a good or service after each additional unit is consumed. This concept is based on the law of diminishing marginal utility and states that as more of a good is consumed, the satisfaction or utility gained from each additional unit decreases. *For example, if a person eats one slice of pizza, they may experience a high level of satisfaction, but if they eat a second slice, the satisfaction from the second slice will be lower than the satisfaction from the first slice. *Likewise, if a person purchases a new car, they may experience a high level of satisfaction from the purchase, but if they purchase a second car, the satisfaction from the second car will be lower than the satisfaction from the first car.
In mathematical terms, diminishing marginal utility can be expressed by the formula: MU(x) = MU(x-1) - ΔMU, where MU(x) is the marginal utility of the xth unit consumed, MU(x-1) is the marginal utility of the (x-1)th unit consumed, and ΔMU is the amount by which the marginal utility decreases with each additional unit consumed.
In summary, diminishing marginal utility is the concept that the satisfaction or utility gained from consuming additional units of a good or service decreases with each additional unit consumed. This concept is based on the law of diminishing marginal utility and is mathematically expressed by the formula MU(x) = MU(x-1) - ΔMU.
Example of Diminishing marginal utility
Diminishing marginal utility can best be illustrated through the example of a person eating a series of slices of pizza. *If the person eats the first slice of pizza, they may experience a high level of satisfaction. *However, if they eat a second slice of pizza, the satisfaction from the second slice will be lower than the satisfaction from the first slice. *With each additional slice of pizza, the satisfaction from the pizza will continue to decrease.
Formula of Diminishing marginal utility
The formula for diminishing marginal utility is MU(x) = MU(x-1) - ΔMU, where MU(x) is the marginal utility of the xth unit consumed, MU(x-1) is the marginal utility of the (x-1)th unit consumed, and ΔMU is the amount by which the marginal utility decreases with each additional unit consumed. This formula states that the marginal utility of each additional unit consumed is equal to the marginal utility of the previous unit consumed minus the amount of marginal utility that decreases with each additional unit consumed.
When to use Diminishing marginal utility
Diminishing marginal utility is useful for understanding consumer behavior and making decisions about pricing, production, and resource allocation. *It can help explain why people may be willing to spend more money on the first few units of a good or service than on the last few units. *It can help explain why people may be willing to spend more money on a luxury item than on a basic necessity. *It can also help explain why people may be willing to pay more for a product that is in short supply than for a product that is in abundance.
Types of Diminishing marginal utility
Diminishing marginal utility can be divided into two types: absolute diminishing marginal utility and relative diminishing marginal utility.
Absolute diminishing marginal utility is the concept that the marginal utility of a good or service decreases as more of it is consumed, regardless of the amount of other goods or services that are consumed. *For example, if a person eats one slice of pizza, they may experience a high level of satisfaction, but as they consume more slices of pizza, the satisfaction from each additional slice will decrease. *In this case, the diminishing marginal utility is absolute, as the satisfaction from each additional slice of pizza decreases regardless of whether the person consumes other goods or services.
Relative diminishing marginal utility is the concept that the marginal utility of a good or service decreases as more of it is consumed, relative to the amount of other goods or services that are consumed. *For example, if a person eats one slice of pizza, they may experience a high level of satisfaction, but as they consume more slices of pizza, the satisfaction from each additional slice will decrease relative to the amount of other goods or services that are consumed. *In this case, the diminishing marginal utility is relative, as the satisfaction from each additional slice of pizza decreases in comparison to the satisfaction from other goods or services that are consumed.
Steps of Diminishing marginal utility
The steps of diminishing marginal utility are as follows:
- Step 1: The consumer purchases the first unit of the good or service, and experiences the highest level of satisfaction or utility from it.
- Step 2: The consumer purchases the second unit of the good or service, and experiences a lower level of satisfaction or utility from it than the first unit.
- Step 3: The consumer purchases the third unit of the good or service, and experiences an even lower level of satisfaction or utility from it than the second unit.
- Step 4: The consumer continues to purchase additional units of the good or service, and experiences a lower level of satisfaction or utility from each additional unit than the previous one.
Advantages of Diminishing marginal utility
Diminishing marginal utility has several advantages when it comes to economic decision-making.
- The most notable advantage is that it provides an incentive for consumers to purchase the first units of a good or service, as they will gain the most satisfaction from these units.
- It also allows producers to set a price that reflects the utility of the product, as the price will decrease as the number of units purchased increases.
- Lastly, it helps to ensure that resources are used efficiently, as consumers will be incentivized to purchase the right amount of a good or service to maximize their satisfaction.
Limitations of Diminishing marginal utility
Although diminishing marginal utility can be useful in predicting consumer behavior, it does have several limitations. *First, it assumes that people have a fixed amount of utility that they can gain from consuming a good or service, which may not always be the case. *Second, it assumes that all consumers will respond to additional units of a good or service in the same manner, which may not be true as different people may have different preferences. *Third, it assumes that the utility gained from a good or service will decrease with each additional unit consumed, which may not always be the case if a person experiences a positive change in their preferences.
Other approaches related to diminishing marginal utility include the law of equi-marginal utility and the concept of imputed marginal utility. The law of equi-marginal utility states that when a consumer is maximizing their satisfaction from consuming a certain good, they are allocating their spending to that good in such a way that the marginal utility gained from each dollar spent is equal for all goods. Meanwhile, the concept of imputed marginal utility states that the marginal utility of a good or service is not only based on the actual utility gained from consuming the good or service, but also on the utility gained from the fact that the good or service allows the consumer to satisfy some need or want.
In summary, approaches related to diminishing marginal utility include the law of equi-marginal utility, which states that a consumer is allocating their spending in such a way that the marginal utility gained from each dollar spent is equal for all goods, and the concept of imputed marginal utility, which states that the marginal utility of a good or service is based on the actual utility gained from consuming the good or service, as well as the utility gained from the fact that the good or service allows the consumer to satisfy some need or want.
Suggested literature
- Easterlin, R. A. (2005). Diminishing marginal utility of income? Caveat emptor. Social Indicators Research, 70(3), 243-255.
- Rabin, M. (2000). Diminishing marginal utility of wealth cannot explain risk aversion.
- Brewer, P., & Venaik, S. (2010). Globe practices and values: A case of diminishing marginal utility?. Journal of international business studies, 41, 1316-1324.
