Description
This is a presentation explains how household's utility is maximized. It presents utility analysis, total and marginal utility, law of diminishing marginal utility.
The Consumer’s Problem
Utility Analysis
Households Maximize Utility
? We assume that people continuously attempt to
maximize their level of satisfaction, sense of well being, or overall welfare from whatever resources they have.
? utility
? Households, like other decision makers, are viewed
as rational
? they try to act in the best interest of the household and
would not deliberately make choices that are likely to make them worse off ( reduce their present level of satisfaction )
2 Utility
Utility Analysis
? Utility is the sense of pleasure, or satisfaction, that
comes from consumption
? The utility that a person derives from consuming a
particular good depends on person’s tastes or preferences for different goods and services ? likes and dislikes
? Utility is subjective
3
Utility
Utility Analysis
? We generally assume simply that tastes are given and
are relatively stable ? different people may have different tastes but an individual’s tastes are not constantly in flux.
? Consumers make choices on the basis of two very
important concepts of Total and Marginal Utility.
4
Utility
Total and Marginal Utility
? Total utility is the total satisfaction a person derives from
consumption
? Marginal utility is the change in total utility resulting from
a one-unit change in consumption of a good
5
Utility
Law of Diminishing Marginal Utility
? The more of a good an individual consumes per time
period, other things constant, the smaller the increase in total utility from additional consumption
? That is, the smaller the marginal utility of each additional
unit consumed
6
Utility
Units of Utility
? Remembering that we cannot objectively measure utility,
yet let’s assign numbers to the amount of utility from each quantity consumed. This pattern of numbers reflects a person’s expressed satisfaction
? Thus, we can compare the total utility a particular
consumer gets from different goods as well as the marginal utility that same consumer gets from additional consumption
7
Utility
Units of Utility
? Further, we can employ units of utility to evaluate a
consumer’s preferences for additional preferences for additional units of a good or even additional units of different goods
? Is also important to remember that we should not try to
compare units of utility across consumers, that is, each person has a uniquely subjective utility scale
8
Utility
Utility Derived from Water
Quantity 0 1 2 3 4 5 Total Utility 0 40 60 70 75 73 Marginal Utility 40 20 10 5 -2
The first column lists possible quantities of water a person might consume after running on a hot day. The second column presents the total utility derived from that consumption and the third column presents the marginal utility of each additional glass of water consumed.
9 Utility
Total and Marginal Utility
Because of diminishing marginal, each glass adds less to total utility. Total utility increases for the first four glasses but at a decreasing rate. In our example, diminishing marginal utility begins with the first unit as seen by the pattern of marginal utility
Total Utility
Marginal Utility
More Than One Good
? What if the consumer is choosing among more than one
good? ? Goods will have different prices, so we need to account for this. ? Instead of comparing MU, we will need to incorporate these price differences by dividing MU by price. ? This yields the MU per rupee spent on the good.
11
Utility
The Consumer Maximization Rule
? How should the utility maximizing consumer
reallocate their budget when: MUA/PA > MUB/PB ? The marginal utility per rupee spent on A exceeds the marginal utility per rupee spent on B. ? Hence, the consumer should purchase more A and less B.
12
Utility
The Consumer Maximization Rule
? How should the utility maximizing consumer reallocate
their budget when: MUA/PA < MUB/PB ? The marginal utility per rupee spent on A is less than the marginal utility per rupee spent on B. ? Hence, the consumer should purchase less of A and more of B.
13
Utility
The Consumer Maximization Rule
? The utility maximizing consumer should allocate
their budget such that: MUA/PA = MUB/PB ? Once this condition is met, a change in prices may bring about a reallocation.
14
Utility
Consider Selecting Between Two Goods
Units 0 1 2 3 4 5 TU Pizza 0 10 18 20 22 23 TU Bread 0 5 9 12 14 16
Units 0 1 2 3 4 5
TU Pizza 0 10 18 20 22 23
MU MU/P TU MU MU/P Pizza (Rs.2) Bread Bread (Rs.1) 10 8 2 2 1 5 4 1 1 .50 0 5 9 12 14 16 5 4 3 2 2 5 4 3 2 2
Units 0 1 2 3 4 5
TU Pizza 0 10 18 20 22 23
MU Pizza 10 8 2 2 1
MU/P 5 4 1 1 .50
TU MU MU/P Bread Bread 0 5 9 12 14 16 5 4 3 2 2 5 4 3 2 2
Units 0 1 2 3 4 5
TU Pizza 0 10 18 20 22 23
MU Pizza 10 8 2 2 1
MU/P 5 4 1 1 .50
TU MU MU/P Bread Bread 0 5 9 12 14 16 5 4 3 2 2 5 4 3 2 2
Units 0 1 2 3 4 5
TU Pizza 0 10 18 20 22 23
MU Pizza 10 8 2 2 1
MU/P 5 4 1 1 .50
TU MU MU/P Bread Bread 0 5 9 12 14 16 5 4 3 2 2 5 4 3 2 2
Units 0 1 2 3 4 5
TU Pizza 0 10 18 20 22 23
MU Pizza 10 8 2 2 1
MU/P 5 4 1 1 .50
TU MU MU/P Bread Bread 0 5 9 12 14 16 5 4 3 2 2 5 4 3 2 2
Units 0 1 2 3 4 5
TU Pizza 0 10 18 20 22 23
MU Pizza 10 8 2 2 1
MU/P 5 4 1 1 .50
TU MU MU/P Bread Bread 0 5 9 12 14 16 5 4 3 2 2 5 4 3 2 2
Units 0 1 2 3 4 5
TU Pizza 0 10 18 20 22 23
MU Pizza 10 8 2 2 1
MU/P 5 4 1 1 .50
TU MU MU/P Bread Bread 0 5 9 12 14 16 5 4 3 2 2 5 4 3 2 2
The Consumer Maximization Rule
? Suppose the price of good A rises while that of good B
remains the same. MUA/PA < MUB/PB ? In this situation, the marginal-utility-per-rupee spent on good A is less than that of good B. ? The consumer should increase the quantity of good B and decrease the quantity of good A.
23
Utility
The Consumer Maximization Rule
? Note in the previous example that as the price of good A
rises, the consumer reduces the quantity of A they purchase. ? In other words, there is an inverse or negative relationship between price and quantity demanded. ? The inverse relationship between price and quantity demanded is known as the “law of demand.”
24
Utility
Demand Curve
? Demand is a relation showing the quantities of a
good or services that consumers are willing and able to buy at various prices during a given period of time, all other things constant. ? The demand curve is a curve showing the quantities of a particular good or service demanded at various possible prices during a given time period, all other things constant.
25
Utility
Demand for Pizza Generated from Marginal Utility
8 Price per pizza
a
6
b
4
2
D
0
26
1
2
3
4
Pizzas per week
Utility
doc_201812927.ppt
This is a presentation explains how household's utility is maximized. It presents utility analysis, total and marginal utility, law of diminishing marginal utility.
The Consumer’s Problem
Utility Analysis
Households Maximize Utility
? We assume that people continuously attempt to
maximize their level of satisfaction, sense of well being, or overall welfare from whatever resources they have.
? utility
? Households, like other decision makers, are viewed
as rational
? they try to act in the best interest of the household and
would not deliberately make choices that are likely to make them worse off ( reduce their present level of satisfaction )
2 Utility
Utility Analysis
? Utility is the sense of pleasure, or satisfaction, that
comes from consumption
? The utility that a person derives from consuming a
particular good depends on person’s tastes or preferences for different goods and services ? likes and dislikes
? Utility is subjective
3
Utility
Utility Analysis
? We generally assume simply that tastes are given and
are relatively stable ? different people may have different tastes but an individual’s tastes are not constantly in flux.
? Consumers make choices on the basis of two very
important concepts of Total and Marginal Utility.
4
Utility
Total and Marginal Utility
? Total utility is the total satisfaction a person derives from
consumption
? Marginal utility is the change in total utility resulting from
a one-unit change in consumption of a good
5
Utility
Law of Diminishing Marginal Utility
? The more of a good an individual consumes per time
period, other things constant, the smaller the increase in total utility from additional consumption
? That is, the smaller the marginal utility of each additional
unit consumed
6
Utility
Units of Utility
? Remembering that we cannot objectively measure utility,
yet let’s assign numbers to the amount of utility from each quantity consumed. This pattern of numbers reflects a person’s expressed satisfaction
? Thus, we can compare the total utility a particular
consumer gets from different goods as well as the marginal utility that same consumer gets from additional consumption
7
Utility
Units of Utility
? Further, we can employ units of utility to evaluate a
consumer’s preferences for additional preferences for additional units of a good or even additional units of different goods
? Is also important to remember that we should not try to
compare units of utility across consumers, that is, each person has a uniquely subjective utility scale
8
Utility
Utility Derived from Water
Quantity 0 1 2 3 4 5 Total Utility 0 40 60 70 75 73 Marginal Utility 40 20 10 5 -2
The first column lists possible quantities of water a person might consume after running on a hot day. The second column presents the total utility derived from that consumption and the third column presents the marginal utility of each additional glass of water consumed.
9 Utility
Total and Marginal Utility
Because of diminishing marginal, each glass adds less to total utility. Total utility increases for the first four glasses but at a decreasing rate. In our example, diminishing marginal utility begins with the first unit as seen by the pattern of marginal utility
Total Utility
Marginal Utility
More Than One Good
? What if the consumer is choosing among more than one
good? ? Goods will have different prices, so we need to account for this. ? Instead of comparing MU, we will need to incorporate these price differences by dividing MU by price. ? This yields the MU per rupee spent on the good.
11
Utility
The Consumer Maximization Rule
? How should the utility maximizing consumer
reallocate their budget when: MUA/PA > MUB/PB ? The marginal utility per rupee spent on A exceeds the marginal utility per rupee spent on B. ? Hence, the consumer should purchase more A and less B.
12
Utility
The Consumer Maximization Rule
? How should the utility maximizing consumer reallocate
their budget when: MUA/PA < MUB/PB ? The marginal utility per rupee spent on A is less than the marginal utility per rupee spent on B. ? Hence, the consumer should purchase less of A and more of B.
13
Utility
The Consumer Maximization Rule
? The utility maximizing consumer should allocate
their budget such that: MUA/PA = MUB/PB ? Once this condition is met, a change in prices may bring about a reallocation.
14
Utility
Consider Selecting Between Two Goods
Units 0 1 2 3 4 5 TU Pizza 0 10 18 20 22 23 TU Bread 0 5 9 12 14 16
Units 0 1 2 3 4 5
TU Pizza 0 10 18 20 22 23
MU MU/P TU MU MU/P Pizza (Rs.2) Bread Bread (Rs.1) 10 8 2 2 1 5 4 1 1 .50 0 5 9 12 14 16 5 4 3 2 2 5 4 3 2 2
Units 0 1 2 3 4 5
TU Pizza 0 10 18 20 22 23
MU Pizza 10 8 2 2 1
MU/P 5 4 1 1 .50
TU MU MU/P Bread Bread 0 5 9 12 14 16 5 4 3 2 2 5 4 3 2 2
Units 0 1 2 3 4 5
TU Pizza 0 10 18 20 22 23
MU Pizza 10 8 2 2 1
MU/P 5 4 1 1 .50
TU MU MU/P Bread Bread 0 5 9 12 14 16 5 4 3 2 2 5 4 3 2 2
Units 0 1 2 3 4 5
TU Pizza 0 10 18 20 22 23
MU Pizza 10 8 2 2 1
MU/P 5 4 1 1 .50
TU MU MU/P Bread Bread 0 5 9 12 14 16 5 4 3 2 2 5 4 3 2 2
Units 0 1 2 3 4 5
TU Pizza 0 10 18 20 22 23
MU Pizza 10 8 2 2 1
MU/P 5 4 1 1 .50
TU MU MU/P Bread Bread 0 5 9 12 14 16 5 4 3 2 2 5 4 3 2 2
Units 0 1 2 3 4 5
TU Pizza 0 10 18 20 22 23
MU Pizza 10 8 2 2 1
MU/P 5 4 1 1 .50
TU MU MU/P Bread Bread 0 5 9 12 14 16 5 4 3 2 2 5 4 3 2 2
Units 0 1 2 3 4 5
TU Pizza 0 10 18 20 22 23
MU Pizza 10 8 2 2 1
MU/P 5 4 1 1 .50
TU MU MU/P Bread Bread 0 5 9 12 14 16 5 4 3 2 2 5 4 3 2 2
The Consumer Maximization Rule
? Suppose the price of good A rises while that of good B
remains the same. MUA/PA < MUB/PB ? In this situation, the marginal-utility-per-rupee spent on good A is less than that of good B. ? The consumer should increase the quantity of good B and decrease the quantity of good A.
23
Utility
The Consumer Maximization Rule
? Note in the previous example that as the price of good A
rises, the consumer reduces the quantity of A they purchase. ? In other words, there is an inverse or negative relationship between price and quantity demanded. ? The inverse relationship between price and quantity demanded is known as the “law of demand.”
24
Utility
Demand Curve
? Demand is a relation showing the quantities of a
good or services that consumers are willing and able to buy at various prices during a given period of time, all other things constant. ? The demand curve is a curve showing the quantities of a particular good or service demanded at various possible prices during a given time period, all other things constant.
25
Utility
Demand for Pizza Generated from Marginal Utility
8 Price per pizza
a
6
b
4
2
D
0
26
1
2
3
4
Pizzas per week
Utility
doc_201812927.ppt