RESEARCH PROJECT

On
‘Cardinal Utility Approach to Study Consumer Behaviour’
Submitted to

MAHARASHTRA NATIONAL LAW UNIVERSITY, AURANGABAD

Submitted by

HRITHIK CHORMARE

B. A.LL.B. (Hons.) Semester-V

Roll No. 2020/BALLB/19
Paper.5.1.: General Principles of Economics

Under the guidance of

Mr. Akash Shahapure
Assistant Professor of Economics

Maharashtra National Law University, Aurangabad

October, 2022

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 Table of Contents
Acknowledgement .....................................................................................................3

Declaration .................................................................................................................4

1. Introduction..........................................................................................................5

2. Cardinal Utility Analysis Assumptions ...............................................................6

3. Independent Utility Hypothesis ...........................................................................7

4. Constancy of the Marginal Utility of Money ......................................................8

5. The Introspective Approach ................................................................................9

6. Law of Diminishing Marginal Utility................................................................10

7. Marginal Utility and Consumer’s Tastes and Preferences ................................14

8. The Importance of a Decreasing Marginal Utility ............................................15

9. Consumer’s Equilibrium: Principle of Equi-Marginal Utility ..........................17

10. Conclusion ......................................................................................................21

Reference ..................................................................................................................22

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 Acknowledgement

First and foremost, I would like to thank our Hon'ble Vice-Chancellor Prof. Dr. K. V. S. Sarma
for providing me an opportunity to do this research project.

I owe a debt of gratitude to my mentors Mr. Akash Shahapure sir for their intensive support and
helping me complete the project. They have always been supportive in all my endeavours and I
am grateful for their support.

I humbly thank my friends for their constant support and help whenever I was feeling low. It is
their inspiration that made me complete the project with precision. I would also like to express
my gratitude to my teachers, friends and my relatives for helping me and providing me support,
inspiration and encouragement throughout the study.

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 Declaration

This declaration is made at Aurangabad that, this project is prepared and drafted by, Hrithik
Chormare.

It contains the project work that was assigned to me during my 5th Semester of my BA.LL. B,
and successfully accomplished from my side.

This project is a sincere attempt at compilation of the aforementioned work.

This has not been submitted, either in whole or in part, to any other Law University or affiliated
Institute under which any University is recognised by the Bar Council of India, for the award of
any other law degree or diploma, within the territory of India.

Hrithik Chormare
2020/BALLB/19

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 1. Introduction

The supply and demand for a good or service determines its price. The theory of consumer
behavior, which explains a consumer's demand for a good and the factors that determine it, is the
focus of this project. The price of the product, the individual's income, and the prices of related
goods all influence an individual's demand for a product.

It can be put into the functional form that follows:

Dx = f(Px, I, Py, P2, T, and so on)

where Dx represents the demand for the good X, Px represents the price of the good X, I
represents an individual's income, Py Pz represents the prices of related goods, and T represents
the individual's tastes and preferences.Economists, on the other hand, identify the good's price as
the most significant determinant of demand among these determinants. In fact, a theory of
consumer behavior's purpose is to establish a relationship between a good's price and the
quantity demanded, as well as to provide an explanation for this relationship.

A number of alternative theories, including Indifference Curve Analysis, Samuelson's Revealed

Preference Theory, and Hicks' Logical Weak Ordering Theory, have been proposed as
alternatives to the cardinal utility approach to the theory of demand.

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 2. Cardinal Utility Analysis Assumptions

The foundation of the Cardinal Utility Analysis of Demand is a set of significant assumptions. It
is essential to describe the fundamental assumptions on which the entire utility analysis is based
before explaining how cardinal utility analysis explains consumer's equilibrium in relation to the
demand for a good. Cardinal utility analysis has been criticized for its unrealistic assumptions, as
we will see later.

The following are the fundamental assumptions or premises of cardinal utility analysis:

The Cardinal Measurability of Utility

According to the proponents of cardinal utility analysis, utility is a fundamental idea. To put it
another way, they believe that utility can be measured and quantified. They assert that a person is
able to quantify the utility or contentment he receives from the goods in quantitative cardinal
terms. The cardinal measurement of utility also implies that a person can compare utilities
derived from goods in terms of size, that is, how much one level of utility is greater than another.
As a result, a person can say that he derives utility equal to 10 units from the consumption of a
unit of good A and 20 units from the consumption of a unit of good B.

According to Marshall, marginal utility is actually quantifiable in terms of money, and one can
assert that the utility a person receives from consuming one unit of good B is double that of
consuming one unit of good A. Money can be viewed as a command over other utility-yielding
goods because it represents the general purchasing power. Marshall argues that a person's utility
can be measured by the amount of money they are willing to spend on a unit of a good rather
than going without it.

Therefore, according to him, money is the metric by which utility is measured. Cardinalist
economists use fictitious units known as "utils" to measure utility. They assume that a consumer
can say that one apple provides him with utility equal to four utils. In addition, he can claim that
an apple provides twice as much utility as an orange does on this basis.

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 3. Independent Utility Hypothesis

The hypothesis of independent utilities is the second crucial tenet of the cardinal utility analysis.
The utility that a consumer obtains from a good does not depend on the quantity consumed of
other goods, according to this hypothesis; rather, the utility that a consumer derives from a good
is the function of the quantity of that good and only of that good. It is determined solely by the
quantity purchased of that product.

If this is the case, then the total utility that a person receives from the entire set of goods that he
purchases is simply the sum of the individual utilities of the goods. Therefore, the cardinalist
school views utility as "additive," which means that the total sum of the utilities of all purchased
goods can be obtained by adding the individual utilities of various goods.

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 4. Constancy of the Marginal Utility of Money

The constant marginal utility of money is another crucial assumption of the cardinal utility
analysis. As a result, whereas the cardinal utility analysis holds that the marginal utility of a good
decreases as more of it is purchased or consumed, the marginal utility of money remains constant
regardless of how much money an individual carries with him. This assumption was initially
made by Daniel Bernoulli, but Marshall later adopted it in his well-known book "Principles of
Economics."

Marshall used money to measure marginal utilities, as previously stated. However, if the
marginal utility of money itself remains constant, it is not possible to measure the marginal
utility of goods in terms of money. It is important to note that the Marshallian analysis relies
heavily on the assumption of constant money's marginal utility because without it, Marshall
would not be able to measure the marginal utility of goods in terms of money. The marginal
utility of goods cannot be accurately measured if the unit of measurement, money, itself changes
while being measured.

Marshall ignored this and assumed that the consumer's marginal utility of money did not change
as a result of the change in price. However, when the price of a good falls and the consumer's
real income rises, the consumer's marginal utility of money falls. Similarly, when a product's
price rises, a consumer's real income decreases and his marginal utility of money increases.
However, Marshall ignored this and assumed that money's marginal utility would not change.
Marshall argued that "his (the individual consumer's) expenditure on any one thing is only a
small part of his total expenditure" to support this assumption.

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 5. The Introspective Approach

The use of an introspective approach to evaluating the behavior of marginal utility is another
significant assumption of the cardinal utility analysis. The capacity for self-observation by an
observer to reconstruct events that take place in another person's mind is known as introspection.
This type of understanding may be based solely on intuition, guesswork, or long-term
experience.

As a result, economists construct the trend of feeling in other men's minds using their own
experience. One learns how other people's minds would operate in similar circumstances through
experience and observation, as well as from his own response to particular forces. In conclusion,
we attribute to another person what we know about our own minds in the introspective method.
That is, when we look inside ourselves, we can see inside the minds of other people.

Therefore, introspection serves as the foundation for the law of diminishing marginal utility. We
are conscious of the fact that the more of something we possess, the less useful it becomes.It
leads us to believe that other people's minds will function in a similar manner; that is, their
marginal utility will decrease as they acquire more units of a good.

The fundamental tenets outlined above served as the basis for the development of two laws by
the pioneers of cardinal utility analysis. These laws are central to economic theory and have
numerous applications.

These are the two laws:-

(1) The Law of Equi-Marginal Utility

(2) The Law of Diminishing Marginal Utility.

The practitioners of cardinal utility analysis have derived the law of demand from these two
consumer behavior laws. The genesis of the law of demand and our detailed explanation of these
two laws follow.

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 6. Law of Diminishing Marginal Utility

The behavior of marginal utility is a central tenet of cardinal utility analysis. The Law of
Diminishing Marginal Utility explains this well-known behavior of marginal utility: the marginal
utility of good decreases as an individual consumes more units. To put it another way, as a
consumer consumes more of a good, the additional utility or satisfaction he receives from each
additional unit continues to decrease.

It is important to keep in mind that when a good is consumed more frequently, its marginal
utility decreases, not its total utility. According to the law of diminishing marginal utility, the
total utility rises at a slower rate.

The law of diminishing marginal utility has been stated as follows by Marshall, a well-known
proponent of the cardinal utility analysis:

"With every increase in the stock that he already has, the additional benefit that a person
derives from a given increase of his stock of a thing diminishes."

Two significant facts form the basis of this law. First of all, while a man can have virtually any
desire, each desire can be satisfied. As a result, as a person consumes more units of a good, his
desire for the good decreases and eventually reaches the point where he no longer desires any
more units. That is, a good's marginal utility reaches zero at the saturation point. A good with
zero marginal utility means that the individual has everything he needs from it.

The second fact on which the law of diminishing marginal utility is based is that the various
goods are not perfect alternatives for satisfying various needs. The intensity of a person's
particular desire for a good decreases as they consume more units of that good; however, the
marginal utility of the good would not have diminished if the units of that good could be devoted
to the satisfaction of other wants and yield as much satisfaction as they did initially in the
satisfaction of the first want.

From above, it is clear that the law of diminishing marginal utility describes a common and
fundamental human tendency. This law was formulated through reflection and observation of
consumer behavior.

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The following is an illustration of the Law of Diminished Marginal Utility:

Take a look at Table 7-1, where we show the total and marginal utilities that a person gets from
the number of cups of tea they drink each day. A person gets 12 utils of total utility from
drinking one cup of tea per day. Additionally, because this is only the first cup, it has a marginal
utility of 12 utils. If you drink a second cup every day, the total utility goes up to 22 utils, but the
marginal utility goes down to 10.As can be seen from the table, when a person drinks six cups of
tea per day, the total utility keeps growing at a slower rate while the marginal utility from each
additional cup keeps going down.

However, when a person drinks seven cups of tea per day, the seventh cup has negative marginal
utility equal to –2 utils instead of positive marginal utility. This is because drinking too much tea
each day—say, more than six cups for one person—can cause acidity and gas problems. As a
result, the individual in question receives disutility rather than positive satisfaction from the
additional six cups of tea.

The total utility and marginal utility curves are depicted in Figure 7 1.Three presumptions serve
as the foundation for the total utility curve depicted in Figure 7.1.First, a consumer's total utility
increases, but at a slower rate, as the amount consumed per period increases.As can be seen in
the lower panel of Figure 7.1, this indicates that marginal utility decreases as consumer
consumption per period increases.

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Second, as shown in the graph, the consumer's total utility reaches its highest point when the rate
of consumption of a commodity per period reaches Q4.

As a result, the term "satiation quantity" or "satiety point" refers to the quantity Q4 of the
product. Thirdly, the consumer's total utility decreases if he consumes more than Q4 of the good
per period, so any increase beyond the satiation point in the consumer's consumption of the good
per period is detrimental.

As can be seen in the lower panel of Figure 7.1, after the satiation point, the commodity's
marginal utility curve (MU) descends below the X-axis, indicating that it becomes negative for
the consumer beyond quantity Q4 per period of consumption.

Understanding how we drew the marginal utility curve is crucial. The consumer's increase in
total utility as a result of the consumption of an additional unit of the commodity each period is
referred to as marginal utility, as previously stated. By plotting the additional utility that a
consumer receives from consuming successive units of the commodity against their respective
quantities, we are able to directly determine the marginal utility of those units.

However, according to calculus, the slope of the total utility function U = f(Qx) is the marginal
utility of a commodity X. Thus, by drawing tangents at various points on the total utility curve
TU in the upper panel of Figure 7.1, we can measure the slope at those points and derive the
marginal utility curve. For instance, the marginal utility at the quantity Q1 (i.e., dU/dQ = MU1)
can be determined by drawing a tangent at point A and measuring its slope. In the lower panel of
Figure 7.1, this data is plotted against the quantity. On the Y-axis, we measure the commodity's
marginal utility in the lower panel. Similarly, the commodity's marginal utility at quantity Q2
was determined by plotting the slope of the total utility curve TU at point B against quantity Q2
in the lower panel.

The graph will show that the total utility of the commodity consumed reaches its highest level, T,
in quantity Q4. As a result, the slope of the total utility curve is zero at quantity Q4.The marginal
utility goes negative and the total utility goes down after the quantity Q4.As a result, the satiation
quantity of the commodity is represented by quantity Q4.

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The relationship between total utility and marginal utility is also important, and it's worth noting
it. The sum of the marginal utilities for any quantity of a commodity used is the total utility.For
instance, if the marginal utility of the first, second, and third consumed units of a commodity is
15, 12, and 8, respectively, then the total utility of these three consumed units must equal 35 (15
+ 12 + 8 = 35).

Similarly, the total utility of the quantity Q4 of the commodity consumed is the sum of the
marginal utilities of the units of the commodity up to point Q4, as shown in Figure 7.1's graphs
of total utility and marginal utility. That is, the sum of marginal utilities must equal the total
utility Q4T in the upper panel to cover the entire area under the marginal utility curve MU from
Q4 on.

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 7. Marginal Utility and Consumer’s Tastes and Preferences

People's tastes and preferences determine how useful a particular product is to them. Oranges are
favored by some consumers, apples by others, and bananas by others for consumption. As a
result, the benefits that various people derive from these various fruits depend on their tastes and
preferences.

Depending on his or her tastes and preferences, a person might have different marginal utility
curves for different commodities. As a result, consumers' preferences and tastes are reflected in
the utility they derive from various goods. However, it is important to note that utility cannot be
compared across consumers. A different subjective utility scale applies to each customer. In the
context of cardinal utility analysis, a shift in a consumer's marginal utility curves indicates a
change in their tastes and preferences.

However, it should be noted that a consumer's habits determine his tastes and preferences, so
they rarely shift. Of course, preferences and tastes can shift from time to time. As a result, the
assumption that tastes or preferences are innate and relatively stable is common in economic
theory.

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 8. The Importance of a Decreasing Marginal Utility

Because it enables us to demonstrate that the quantity demanded of a good increase as its price
decreases and vice versa, the diminishing marginal utility of a good is crucial to the theory of
demand. Thus, the demand curve has a downward slope as a result of the decreasing marginal
utility. The law of diminishing marginal utility, when properly understood, applies to all objects
of desire, including money.

However, it is important to note that the marginal utility of money almost never reaches zero or
negative values. Money has purchasing power over all other goods, so if a man has enough
money, he can satisfy all of his material needs. The marginal utility of money to a human being
never reaches zero due to the fact that his total needs are practically limitless.

There are numerous uses and applications for the marginal utility analysis in economic theory
and policy. When it comes to figuring out how prices for goods are set, the idea of marginal
utility plays a crucial role. We are now better able to explain the value paradox that bothered
Adam Smith in "The Wealth of Nations" thanks to our discovery of the concept of marginal
utility.

Adam Smith was very surprised to learn why diamonds, which are completely unnecessary, are
so expensive while water, which is so essential and useful to life, has such a low price (indeed,
no price).He was unable to resolve the water-diamond conundrum. The idea of marginal utility,
on the other hand, can be used by contemporary economists to solve it.

Modern economists maintain that a commodity's marginal utility is the most significant price
determinant, and that a commodity's total utility does not determine its price. The water is now
readily available, resulting in a very low or even negative relative marginal utility. As a result, it
costs little or nothing. Diamonds, on the other hand, are extremely scarce, which accounts for
their high relative marginal utility and the high prices they command.

In the following words, Prof. Samuelson explains this paradox of value:

Even though the commodity's total usefulness increases as we acquire more of it, the relative
desirability of its final small unit decreases as there is more of it. Therefore, it is clear why a lot

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of water is cheap or why, despite its immense utility, air is actually a free good. The market
value of all units is lowered by the numerous later units.

In addition, the Marshallian idea of consumer's surplus is based on the idea that marginal utility
decreases over time.

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 9. Consumer’s Equilibrium: Principle of Equi-Marginal Utility

In cardinal utility analysis, the principle of equi-marginal utility plays a significant role. The
explanation of consumer equilibrium is provided by this principle. A consumer has a
predetermined income that he must spend on various desired goods. Now, the question is how he
would divide up the money he has been given and spend it on various goods—that is, what
would be his optimal buying position? It should be noted that the consumer is assumed to be
"rational," which means that he carefully calculates his utility and substitutes one good for
another in order to maximize his utility or satisfaction.

Let's say that a consumer only needs to spend a certain amount of money on two items, X and Y.
The marginal utility of the goods and the prices of two goods will both have an impact on the
consumer's behavior. Let's say that the consumer is given the prices of the goods.

According to the law of equi-marginal utility, the consumer will divide his income between the
goods so that the utility of the last rupee spent on each good is equal. To put it another way,
consumers are in a state of equilibrium when the marginal utility of the money they spend on
each good is the same. Now, the marginal utility of spending money on a good is equal to the
product of the good's marginal utility and its price. The law of equi-marginal utility can be stated
as follows in symbols:

MUm = MUx / Px,

where MUm is the marginal utility of spending money, MUm is the marginal utility of X, and Px
is the price of X. The consumer will spend the money he earns on various goods so that the
marginal utility of the money spent on each good is the same.

MUx / Px= MUy / Py

If MUx / Px and MUy / Py are not equal and MUx / Px is greater than MUy / Py, then the
consumer will substitute good X for good Y, resulting in a decrease in the marginal utility of
good X and an increase in the marginal utility of good y. In other words, the consumer is in
equilibrium regarding the purchases of two goods, X and V. The consumer will keep replacing

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good X with good Y until MUy / Py equals MUx / Px. The consumer will be in equilibrium
when MUx / Px reaches the same value as MUy / Py.

However, the equality of MUx/Px and MUy/Py can be attained at multiple expenditure levels in
addition to one level. The question is how far a customer will go to acquire the goods he desires.
This is based on how much money he makes. A rupee serves him in a specific way when he has
a certain income and uses money: For him, the marginal value of money is this utility.

Because the law of diminishing marginal utility also applies to income from money, the marginal
utility of money to him decreases with increasing income. The consumer will continue to
purchase goods until the marginal utility of money spent on each good equals his marginal utility
of money.

Therefore, if the following equation holds true, the consumer will be in equilibrium:

MUx / Px = MUy / Py = MUm,

Where MUm is the marginal utility of spending money, or the value of the last rupee spent on
each item.

The aforementioned equation must hold true for all of the consumer's purchases if there are more
than two. Thus,

MUx / Px = MUy / Py =........ = MUm

Let's use the following arithmetic table to illustrate the law of equi-marginal utility:

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The prices of goods X and Y ought to be Rs. Marginal Utility2 and Rs.3 in each case.Divide the
marginal utility (MU) of X by Rs to reconstruct the previous table.2 and Rs. 7 in marginal
utilities (MU).3 brings us to Table 7.3.

Let's say a consumer earns Rs.24 to purchase the two items. It is important to note that because
the prices of the two goods are different, the consumer will not equate the marginal utility of the
two goods in order to maximize his utility. He will compare and contrast the marginal utility of
the last rupee—also known as the marginal utility of spending money—on these two items.

To put it another way, when he spends the money that has been given to him, he will consider
MUy/Py to be equivalent to MUx/Px. When looking at Table 7.3, it will become clear that when
the consumer purchases six units of good X, MUx / Px equals five utils, and when the consumer
purchases four units of good Y, MUy / Py equals five utils. As a result, the consumer will be
spending Rs.2 x 6 + Rs.3 x 4 ) = Rs.24 of them that are sufficient to cover the consumer's stated
income.As a result, in the state of equilibrium where the consumer achieves maximum utility.

MUx / Px = MUy / Py = MUm

10/2 = 15/3 = 5.

As a result, the marginal utility of the final rupee spent on each of the two items he purchases is
the same—5 utils.

In Figure, the equilibrium of consumers is depicted graphically.7.2. The MUx / Px and MUy / Py
curves also slope downward due to the goods' marginal utility curves. Thus, when the consumer
is buying OH of X and OK of Y, then

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MUx / Px = MUy / Py = MUm

Consequently, the consumer is in equilibrium when he purchases 6 units of X and 4 units of Y.

No other allocation of money expenditure will yield him greater utility than when he purchases 6
units of commodity X and 4 units of commodity Y. Suppose the consumer purchases one unit
less of good X and one unit more of good Y.

This will result in the decrease in his total utility. MUx / Px = MUy / Py = MUm Equi-Marginal
Utility Principle and Consumer According to Figure 7.2 (a), consuming five units rather than six
of commodity X results in a loss of satisfaction equal to the shaded area ABCH and Fig.In
7.2(b), it will be seen that consuming five units rather than four of the commodity Y will result in
a utility gain equal to the shaded area KEFL. The change in the order in which the two goods are
purchased will make it clear that the gain in utility KEFL is greater than the loss in utility
ABCH.

As a result, this reorganization of purchases will have a negative impact on his overall
satisfaction. Since MUx / Px = MUy / Py, the consumer will not want to make any more changes
to the goods in his basket and will therefore be in equilibrium by maximizing his utility when he
spends his available income on purchases.

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 10.Conclusion

Cardinal Utility is the idea that economic welfare can be directly observable and be given a
value. For example, people may be able to express the utility that consumption gives for certain
goods. For example, if a Nissan car gives 5,000 units of utility, a BMW car would give 8,000
units. This is important for welfare economics which tries to put values on consumption. For
example, allocative efficiency is said to occur when Marginal cost = Marginal Utility. One way
to try and put values on goods utility is to see what price they are willing to pay for a good. If we
are willing to pay £5,000 for a second-hand Nissan Car, we can infer we must get 5,000 utils. In
other words, the value of cardinal utility is related to the price we are willing to pay.

The idea of cardinal utility is important to rational choice theory. The idea consumers make
optimal choices to maximise their utility. Cardinal utility is an important concept in utilitarianism
and neo-classical economics. Jeremy Bentham talked about utility as maximising pleasure and
minimising pain. William Stanley Jevons, LéonWalras, and Alfred Marshall all developed
concepts of utility, usually linked to market prices. However, proving exact measurement of
utility proved elusive.

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 Reference
(1) https://www.economicsdiscussion.net/
(2) https://enotesworld.com/
(3) https://byjus.com/
(4) http://www.lscollege.ac.in/
(5) https://www.economicshelp.org/
(6) https://egyankosh.ac.in/
(7) https://testbook.com/
(8) https://www.vedantu.com/

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