Law of Diminishing Marginal Utility

Join this study group for discussion on Economics @ Finance Clubb

Share to download class notes

[sociallocker id=”1679″]Thanks for sharing this lesson. Click here to download[/sociallocker]

1.1      Marginal Utility analysis

This theory was formulated by Alfred Marshall

Utility is a measure of satisfaction derived from consumption of a commodity.

Basic Definitions

Total utility: It is the sum of the utility derived from a different unit of a commodity consumed by a consumer. In other words, Total utility = the sum total of all marginal utility.

Marginal utility: It is the additional utility derived from additional unit of a commodity. In short, Marginal utility = the addition made to the total utility by the addition of consumption of one more unit of a commodity.

1.1.1     Law of diminishing marginal utility

The additional benefit which a person derives from a given increase in stock of a thing diminishes with every increase in the stock that he already has.

For-example – If you are eating sweets; utility (or satisfaction) derived from each additional piece of sweet will decrease as you consume more and more of it.

1.1.2     Assumptions of marginal utility anlalysis

1. Cardinal Measurability of Utility Utility is a measurable and quantifiable entity. Thus a person can measure the quantum of utility obtained.
2. Constant Marginal Utility of Money There is no change in marginal utility of money as you spend more of it.
3. The Hypothesis of Independent Utility The total utility which a person gets from the whole collection of goods purchased by him is simply the sum total of the separate utilities of the goods.

1.1.3     Limitations of this law

The law of diminishing marginal utility is applicable only under certain assumptions.

  • Homogenous units: The different units consumed should be identical in all respects. The habit, taste, treatment and income of the consumer also remain unchanged.
  • Standard unit of Consumption: The different units consumed should consist of standard units. If a thirsty man is given water by successive spoonfuls, the utility of second spoonful may conceivably be greater than the utility of the first.
  • Time Concept: There should be no time gap or interval between the consumption of one unit and another unit i.e. there should be continuous consumption.
  • Law fails for prestigious goods: The law may not apply to articles like gold, cash where a greater quantity may increase the lust for it.