By: Malik Abrar Altaf Lecturer Management Dr. SM Iqbal Business School

UnitsTotal UtilityMarginal Utility Example: Law of Diminishing Marginal Utility.

Important points to remember Total Utility goes on increasing at a diminishing rate and then goes on decreasing at a diminishing rate,when the marginal utility becomes zero. Total utility of a quantity of a commodity is maximum, when the Marginal utility is zero. Marginal utility goes on increasing with every diminution of the stock. Marginal Utility = Change in total utility/Change in quantity consumed. Total Utility goes on increasing at a diminishing rate and then goes on decreasing at a diminishing rate,when the marginal utility becomes zero. Total utility of a quantity of a commodity is maximum, when the Marginal utility is zero. Marginal utility goes on increasing with every diminution of the stock. Marginal Utility = Change in total utility/Change in quantity consumed.

Why does Marginal utility fall when the quantity of commodity with the consumer increases.

Limitations of the Law. Suitable Units. Suitable Time. No change in Consumer’s Tastes. (Craving) Normal Persons. Constant income. Rare Collections. ( Ancient Coin Collection) Change in other People’s Stock. ( Land & Railway) Other Possessions. (Carriage without horse) Fashion. Not Applicable to Money.

More UrgentLess Urgent Balance MU of Other Commodities MU of Particular Commodity Priority Limited Unlimited Competition Money

1.Simply an Extension of Law of Diminishing Marginal Utility to two or more commodity purchase. 2.Also Called as : Law of Maximum Satisfaction. Law of substitution. Law of Economy of Expenditure. Law of Indifference. Law of Proportionate rule. Gossen’s Second Law. Statement: Maximum satisfaction out of the expenditure of a given sum can be obtained if the utility derived from the last unit of money spent on each object of expenditure is, more or less the same. 1.Simply an Extension of Law of Diminishing Marginal Utility to two or more commodity purchase. 2.Also Called as : Law of Maximum Satisfaction. Law of substitution. Law of Economy of Expenditure. Law of Indifference. Law of Proportionate rule. Gossen’s Second Law. Statement: Maximum satisfaction out of the expenditure of a given sum can be obtained if the utility derived from the last unit of money spent on each object of expenditure is, more or less the same. Introduction

Suppose a person has Rs.5 with him which he wishes to spend on two commodities, Tea and cigarettes. The marginal utility derived from both these commodities is as under: A rational consumer would like to get maximum satisfaction from Rs He can spend this money in three ways. (1) Rs may be spent on tea only (2) Rs may be utilized for the purchase of cigarettes only. (3) Some rupees may be spent on the purchase of tea and some on the purchase of cigarettes. If the prudent consumer spends Rs on the purchase of tea, he gets 30 utility. If he spends Rs on the purchase of cigarettes, the total utility derived is 39 which is higher than tea. In order to make the best of the limited resources, he adjusts his expenditure. (1) By spending Rs on tea and Rs on cigarettes, he gets 40 utility ( =40). (2) By spending Rs oa tea and Rs on cigarettes, he derives 46 Utility ( =46). (3) By spending Rs on tea and Rs on cigarettes, he gets 48 utility ( =48). (4) By spending Rs on tea and Rs on cigarettes, he gets 46 utility ( =46). The sensible consumer will spend Rs on tea and Rs on cigarettes and will get the maximum satisfaction. When he spends Rs on tea and Rs on cigarettes, the marginal utility derived from both these commodities is equal to 8. When the marginal utilities of the two commodities are equalized, the total utility is then maximum i.e., 48 as is clear from the schedule given above.

(i) Effect of fashions and customs. The law of equi-marginal utility may become inoperative if people forced by fashions and customs spend money on the purchase of those commodities which they clearly know yield less utility but they cannot transfer the unit of money from the less advantageous uses to the more advantageous uses because they are forced by the customs of the country. ( ii) Ignorance or Carelessness. Sometimes people due to their ignorance of price or carelessness to weigh the utility of the purchased commodity do not obtain the maximum advantage by equating the marginal utility in all the uses. (iii) Indivisible Units. If the unit of expenditure is not divisible, then again the law may become inoperative. (iv) Freedom to Choose. If there is no perfect freedom between various alternatives, the operation of law may be impeded. Limitations of the Law