MCom I Semester Managerial Economics Utility Marginal Analysis Study Material notes

MCom I Semester Managerial Economics Utility Marginal Analysis Study Material notes: Meaning and Definition of Utility Characteristics of Utility Meaning and Definition of marginal Utility Forms of Marginal Utility Cardinal Utility Approach of Marshal Ordinal Utility Approach or Hicks Allen ETC Meaning and Definition of Total Utility Relationship Between Marginal Utility and Total Utility

MCom I Semester Business Environment Devaluations Study Material Notes

UTILITY AND MARGINAL ANALYSIS

MEANING AND DEFINITION OF UTILITY

Utility is the power of goods and services to satisfy human wants. In economics, utility is devoid of all the legal, illegal, social or ethical implications. Example : Wine possesses utility for a drunkard and cigarette utility for all.

The utility is a subjective and relative phenomenon because the degree of satisfaction derived from the use of a particular commodity differs from person to person and time to time. Example: A cup of tea provides great satisfaction to one person, very little satisfaction to another person and no satisfaction at all to a third person. The term ‘utility’ has been defined as under:

1 “For an economist, utility means the capability to satisfy wants.” – Prof. Waugh

2. “In economics, utility means the satisfaction or pleasure or benefit derived by a person out of consumption of wealth or assets.” – Prof. Edward

3. “It (utility) refers to the satisfaction or gratification derived from an article to which it satisfies his wants.” Taussig Thus, it may be concluded that utility means the capability of goods and services to satisfy the wants of a person.

CHARACTERISTICS OF UTILITY

(1) Utility is a Psychological Concept Utility is Only a Psychological concept and not a physical concept. We cannot see it or touch it. We can only feel it.

(2) Utility is a Relative Term. Utility is a subjective and relative differs from person to person and time to time.

(3) Utility is Emotional and not Physical. Utility is an emotional phenomenon. It is the wants and needs of a person, which makes the commodity useful. Example : A chapati provides great utility, when we are hungry but the same chapati does not provide any utility when we are not hungry.

(4) Utility is Different from Usefulness. Every commodity, which may Satisfaction to a consumer, possess utility, whether it is harmful

(5) Utility is Different from Satisfaction. Utility is derived, when a person buys a commodity. Satisfaction is derived only when the commodity is actually consumed.

2. Can utility be measured ? If yes, how is it measured? Or Explain the Cardinal and Ordinal utility approaches of measurement of utility.

Ans. An important question regarding utility is Whether it can be measured or not? Some economists are of the view that utility can be measured in objective terms. Other economists are of the view that utility is a psychological concept and it cannot be measured. Thus, there are two approaches in this regard-Cardinal approach and Ordinal approach.

CARDINAL UTILITY APPROACH OF MARSHALL

Dr. Alfred Marshall, propounded the cardinal approach of utility. According to him, utility can be measured in terms of money. It can be measured and the exact measurement can be given by assigning definite number such as 1, 2, 3, ……….. etc. In terms of money, utility of a commodity is the money that we are ready to pay for it. Example: A student is ready to pay Rs. 10 for a pen, the utility of pen for him will be equal to Rs. 10. In terms of

Prof. Fisher). Example : Mr. A derives utility equal to 10 units a cup of tea, the utility of cup of tea for him will be 10 units.

Criticisms of Cardinal Approach of Marshall.

(i) Utility is a subjective concept. It cannot be measured in objective terms.

(ii) Money cannot be a measuring rod of utility because the value of money is not stable.

(iii) Marginal utility of money is itself not stable. It is very high for poor persons and very low for rich persons.

(iv) Utility is influenced by a number of factors, other than money such as the income, taste, fashion, etc.

(v) Utility is a dynamic concept. It varies from person to person, time to objective terms.

ORDINAL UTILITY APPROACH OF HICKS, ALLEN ETC.

A number of economists like Hicks, Allen, Pareto etc., propounded Ordinal approach. According to them, utility is a subjective and psychological concept. It can be compared but not measured. According to them, utility can be arranged in a sequence-First, second, third, etc. A consumer can compare the utility but he cannot tell hw much utilit it is providing .

MEANING AND DEFINITION OF MARGINAL UTILITY

Marginal utility is the utility derived from the consumption of an additional unit of a commodity. In other words, marginal utility is the addition to total utility resulting from adding one unit to the consumption of a commodity. Example: A person consumes 6 chapaties at a time. In this case, 6th chapati will be the marginal unit and marginal utility will be the utility derived by him from the consumption of 6th chapati. It has been defined as under:

1 “Marginal utility of any quantity of a commodity is the increase in totul utility which results from a unit increase in consumption. -Prof. K. E. Boulding

2. “Marginal utility is the utility of marginal unit of stock of a commodity available with a person for him.” –Prof. Ely Thus, it may be concluded that inarginal utility is the utility derived from the consumption of an additional unit of a particular commodity. It is measured by comparing total utility of two levels of consumption.

FORMS OF MARGINAL UTILITY

Marginal utility may be of three types : Positive marginal utility, zero marginal utility and negative marginal utility. These three forms of marginal Utility can Be Explained with the Help of an Example Supose4 a Person can Consume 6 Chapattis a a time and he gets Utility as Under :

(1) Positive Marginal Utility. So long as total utility goes on increasing, marginal utility is said to be positive. It implies that every additional unit of commodity is providing additional utility. In the table and diagram, the consumer is enjoying positive marginal utility till 4th chapatti.

(2) Zero Marginal Utility. When additional unit of consumption does not provide any additional utility, the marginal utility is said to be zero. It is called the point of maximum satisfaction also. It implies that the consumer should stop consumption at this stage. In the table and diagram, 5th chapati represents this position.

(3) Negative Marginal Utility. When an additional unit of consumption provides no satisfaction to consumer, rather provides dis-satisfaction, it is called negative marginal utility. At this stage, total utility starts to decline. No