Utility Analysis

What is Utility?

 The want satisfying power contained in a good

is said to be its utility.

 The psychological feeling of satisfaction or happiness or

well being or benefit derived by the consumer by the
consumption of certain units of a good or service at a
certain point of time.
 Utility can be measured in two ways:

Cardinal Utility:Assigning numerical values to the amount of

satisfaction. The numbers 1, 2, 3, 4 are cardinal numbers.

Ordinal Utility:: Not assigning numerical values to the

amount of satisfaction but indicating the order of preferences, that is,
what is preferred to what. The numbers 1st, 2nd, 3rd, and 4th, are
ordinal numbers.
 Assumptions

1. Utility can be measured in the cardinal number system.

2. No small units are consumed
3. Consumer’s taste/preference must remain same during
period of consumption
4. There must be continuity in consumption
5. Mental condition of the consumer must remain normal
during the period of consumption

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Utility is of two types:
-Total Utility (TU)

-Marginal Utility (MU)

Total Utility

Sum of utility derived by consumer from multiple units consumed

at a point or over a period of time
Example: A consumer consumes 3 units of X and
derives utility u1, u2, u3 and u4

Total Utility Ux= u1 + u2 + u3

Marginal Utility

The change in total utility (TU) derived from

one additional unit of consumption (X)
MU = TU/ X
 Marginal utility
 Positive Marginal Utility
 Zero Marginal Utility
 Negative Marginal Utility
 Positive Marginal Utility

If, by consuming additional units of a

commodity, total utility increases then the
marginal utilities of these units will be Positive
 Zero Marginal Utility
If the consumption of an additional unit of a
commodity causes no change in the total utility, it
means the marginal utility of that unit is zero.
 Negative Marginal Utility

If the consumption of an additional unit of a

commodity causes fall in total utility, it means
the marginal utility of that unit is negative
Law of Diminishing Marginal Utility

“As the quantity consumed of a commodity goes on

increasing, the utility derived from each successive unit goes
on diminishing, consumption of all other commodities
remaining the same”
 Example

As an example assume you have

one ice cream,

1 Ice Cream you feel Ecstatic

 You have a second Ice cream

2nd Ice Cream, u still feel Ecstatic

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 You have the third Ice cream

3rd Ice Cream You Feel Very Happy

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 You have the fourth Ice Cream

4th Ice Cream You Feel 16

Happy
 You have the fifth Ice Cream,

5th Ice Cream You Still Feel

Happy
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 You have the sixth Ice Cream

6th Ice Cream You are

not so Happy
18
 You have the seventh Ice Cream

7th Ice Cream You are

not so Happy 19
 You have the eighth Ice Cream

8th Ice Cream

You fall sick
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 The following table will make the law of
diminishing marginal utility more clear

Units Total Utility Marginal Utility

1st ice cream 20 20
2nd ice cream 32 12
3rd ice cream 40 8
4th ice cream 44 4
5th ice cream 45 1
6th ice cream 45 0
7TH ice cream 44 -1
8th ice cream 42 -2
 Relationship between Total Utility and Marginal
Utility

 When marginal utility is positive total utility increases

 When marginal utility zero total utility is at maximum. It is also known as

‘point of maximum satisfaction’

 When marginal utility is negative total utility diminishes.

 Law of Equi - Marginal Utility

The law of equi-marginal utility explains the

behaviour of a consumer when he consumes more
than one commodity.

It explains how the consumer spends his limited

income on various commodities to get maximum
satisfaction.
 Law of Equi - Marginal Utility

The law states that a consumer maximizes his

total utility by distributing his entire income
optimally among the various goods consumed
by him.
 ASSUMPTIONS

 The consumer is rational so he wants to get

maximum satisfaction

 Cardinal measurement of utility is possible

 The income of the consumer is given and remain

constant
 ASSUMPTIONS

 Fashions, tastes and preferences remain constant

 Prices of the commodities are given and remain

constant

 Consumption takes place at a given time period

Thank you !!!