Chapter 20 Consumer Choice

Utility Theory Utility The want-satisfying power of a good or service Basically, it’s another word for satisfaction Purely subjective- you can’t measure my utility Utility Analysis The analysis of consumer decision making based on utility maximization Utils Unit used when talking about utility

Utility Total utility versus marginal utility Total utility is total satisfaction from consumption. Marginal utility is the additional satisfaction from consuming an additional unit. Law of diminishing marginal utility Marginal utility ultimately declines as a person consumes more and more of a good or service.

Utility Theory (cont'd) Marginal (additional, incremental) Utility The change in total utility due to a one-unit change in the quantity of a good or service consumed No more Donuts! mmm… Donuts Maybe one more

Figure 20-1 Total and Marginal Utility of Downloading and Listening to Digital Music Albums

Figure 20-1 Total and Marginal Utility of Downloading and Listening to Digital Music Albums As each album is listened to, enjoyment increases until this point Total utility is maximized...

Figure 20-1 Total and Marginal Utility of Downloading and Listening to Digital Music Albums This graph shows the decline of marginal utility …where marginal utility equals zero.

Graphical Analysis (cont'd) Observations Marginal utility falls as more is consumed. Marginal utility equals zero when total utility is at its maximum. You couldn’t be any happier!

Newspaper Vending Machines versus Candy Vending Machines How many people take more than one paper from the vending machine? Why not dispense candy the same way? The answer is found in the concept of diminishing marginal utility. The utility for candy is (in most cases) greater than it is for a newspaper

Optimizing Consumption Choices Consumer Optimum A choice of a set of goods and services that maximizes the level of satisfaction for each consumer, subject to limited income

If you spend your income wisely you can enjoy music and sandwiches!!!

How a Price Change Affects Consumer Optimum The Substitution Effect The tendency of people to substitute cheaper commodities for more expensive commodities The Principle of Substitution Consumers and producers shift away from goods and resources that become priced relatively higher in favor of goods and resources that are now priced relatively lower.

How a Price Change Affects Consumer Optimum The substitution effect of a price change A person will substitute among goods by buying less of a good when its price increases.

How a Price Change Affects Consumer Optimum Purchasing Power The value of money for buying goods and services What happens to your purchasing power at Wal-Mart?

How a Price Change Affects Consumer Optimum (cont'd) Real-Income Effect The change in people’s purchasing power that occurs when, other things being constant, the price of one good that they purchase changes When that price goes up (down), real income, or purchasing power, falls (increases). (Wal-Mart)

How a Price Change Affects Consumer Optimum Question??? What do you think: Which would usually have more of an impact on your purchases—the substitution effect or the real-income effect? Discuss this with your neighbor! NOW!!!

The Demand Curve Revisited Question How is the demand curve derived? Answer By assuming income, tastes, expectations, and the price of related goods are not changing as the price of the good changes

The Demand Curve Revisited (cont'd) Marginal utility, total utility, and the diamond-water paradox Water is essential to life but cheap. Diamonds are not essential to life but expensive.

End of Chapter 20