UTILITY Utility is satisfaction. We get utility from the consumption of goods and services. We aim to maximise our total utility. Utility can be measured in units called “Utils”

MARGINAL UTILITY Marginal utility is the extra satisfaction we get from consuming one more unit of a good. The law of diminishing marginal utility states that as we consume more of the same good MU will begin to fall. MUMU $ units

Example Sam loves cream donuts. The first donut he eats gives him 18 utils of satisfaction. The second donut gives him 12 utils of satisfaction. The third donut gives him 7 utils of satisfaction and the fourth donut gives him 1 util. Copy and complete the table below then draw Sam's total and marginal utility graphs Number of Donuts Marginal Utility (extra satisfaction) Total Utility from all Donuts consumed Total and marginal Utility Number of donuts

Copy and complete the following statements Marginal Utility __________ as more donuts are consumed Total Utility ____________ as more donuts are consumed but at a ____________ rate Total Utility will be the greatest when Marginal Utility equals ____ Total Utility will fall if marginal utility is ___________ Falls increases Slower 0 Negative

Total Utility and Marginal Utility TU MU $$ Q Q q1 When TU is maximum MU = 0

Putting a $ Value on Utility A person can put a dollar value on personal satisfaction from consuming an item. This value will be different for each person based on their personal preferences (i.e. Sam really likes cream donuts so may put on a higher dollar value on cream donuts than his workmate.

Example – QuantityMarginal UtilityMarginal Utility in dollars (each util is worth.50) Sam values each util at 50cents Complete the final column in the table below How many donuts will sam buy if the market price is each of the following ( Remember MU$ in the chart above represents sams personal satisfaction ($ value) from the last donut) $8 =__________ $5 = __________ $2 = __________ 1 2 3

Marginal Analysis What we have just done is used the concept of marginal analysis to help in our decision making. Marginal Analysis = comparing the extra benefit with the extra cost in making a decision When deciding how many donuts Sam would consume at the given prices. We compared how much extra benefit (MU) Sam would gain against the extra cost (price)

OPTIMAL PURCHASE RULE A consumer will consume up to the point where P = MU. A consumer will only buy extra units if their value of personal satisfaction from the extra unit is above or equal to the price they have to pay.

Using the Optimal Purchase Rule to find a persons Demand for a good or service A persons demand for a good or service can be defined as The amount of a good or service that a person is willing and able to buy at each price level Marginal Utility will determine a person’s demand for a good or service. An individual demand curve is the same as their marginal utility (dollars) curve.

Illustration Exercise Complete the worksheet and stick into your notes

DEMAND Using P=MU and a consumers MU curve we can derive their demand. Mu $ unit mu Q P$P$ D

Demand and Marginal Utility The price that a person is willing to pay for a extra unit is determined by their marginal utility from that unit Earlier units of consumption have a higher marginal utility therefore consumers are willing to pay a higher price Consumers will only by a extra unit of a good or service if the price falls…… This leads to the law of demand

Law of demand

Workbooks page 109

Consumer Equilibrium Consumer equilibrium occurs when the satisfaction from total spending by a consumer is maximised for a given level of income Optimal purchase rule – a consumer will consume up to the point where Price = $MU When buying many goods, a persons satisfaction is maximised when the last dollar spent on each good gives the same amount of satisfaction. Consumers are getting the most satisfaction from their total spending and have maximised their total utility

Equi – Marginal Rule

Example Text Book Page 25

PARADOX OF VALUE It seems puzzling that water, which is essential for life, has a low value, whereas diamonds, which are not essential have a very high value. Because we consume water in such large quantities, the MU is low. Diamonds however are consumed in small amounts and so have a very high MU.

Exercises page

QUESTIONS

DESCRIBE The trend for total utility as a person consumes more and more of a product. The trend for marginal utility as a person consumes more and more of a product. The trend for quantity demand as price falls. The trend for the consumption of an inferior good as income increases. The trend for the consumption of a normal good as income increases.

EXPLAIN Why consumers increase their quantity demand as price falls.

Vocabulary Satisfaction from consumption of a good or service. As more of a good is consumed, the extra satisfaction decreases. The quantity a persons is able and willing to buy at a given price.

Vocabulary A consumer will purchase up to the point where MU=P A product used in place of another. A product often used in conjunction with another.