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7/30/2019 Unit-III Utility Analysis
http://slidepdf.com/reader/full/unit-iii-utility-analysis 1/22
UTILITY ANALYSIS
By
Mrs. N. Jayaprada Srinivas
7/30/2019 Unit-III Utility Analysis
http://slidepdf.com/reader/full/unit-iii-utility-analysis 2/22
INTRODUCTION Utility is the Power of a Commodity to satisfy human wants.
Total Utility i s the sum total of the units of utility which an
individual derives from the consumption of a commodity during a specified period of time .
Average Utility is the aggregate utility of commodities
consumed. Total Utility
AU= --------------------------------------------No. Of Units of Commodity consumed
Marginal Utility is the change in the total utility resulting
from one unit change in the consumption of a commodity
per unit of time. Change in Total Utility
MU = ---------------------------------------
Change in Quantity Consumed
7/30/2019 Unit-III Utility Analysis
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LAW OF DIMINISHING MARGINAL UTILITY
The German Economist H. Gossen, who was first toexplain the law, said that
‘As the consumer consumes more and more units of a commodity, the utility from the
successive units goes on diminishing´.
Marshall explains the law as
‘The additional benefit, which a person derives
from an increase of his stock of a thing,diminishes with every increase in the stock that he
already has´.
7/30/2019 Unit-III Utility Analysis
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ASSUMPTIONS
The Unit of Consumption must be a Standard One.
Consumption must be Continuous.
Multiple Units of the Commodity should be
Consumed. The tastes and preferences of the consumer should
remain unchanged during the course of
consumption.
The good should be normal and not addictive innature.
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TOTAL & MARGINAL UTILITY
Units Total
utility
Marginal
utility1 10 10
2 15 5
3 19 4
4 22 3
5 23 1
6 23 0
7 21 -2
Total and Marginal Utility
TU
MU
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LIMITATIONS OF THE LAW
Suitable UnitsSuitable Time
No Change in Consumer’s Tastes
RationalityRare Collections
Fashion
Not Applicable to Money
7/30/2019 Unit-III Utility Analysis
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LAW OF DIMINISHING MARGINAL
UTILITY - APPLICATIONS
Helps in Taxation.
Price Determination.
Household Expenditure.
Basis of law of Demand.
Socialists View.
Consumer’s Surplus Concept.
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LAW OF EQUI-MARGINAL UTILITY
It is an extension of the law of Diminishing Marginal
Utility to two or more commodities.
Given the income of a consumer, the law states that
consumer can get maximum satisfaction when the
Marginal Utility of the last rupee spent on each
commodity yield the same utility.
To get maximum satisfaction, consumer will substitute
one good for another.
It is also called as Law of Substitution, Law
of Indifference, or Law of Maximum Satisfaction.
7/30/2019 Unit-III Utility Analysis
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LAW OF EQUI--MARGINAL UTILITY
Under Law of Equi- marginal utility, if the utility from
a commodity X is more than that from another
commodityY, then the consumer would reduce
consumption of Y and increase consumption of X.
Consumer equilibrium can be stated in the
following formula.
Mux / Px = MUy / Py = MUi
Where MU = Marginal Utility
P = Price
i = Income
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THE RESULTING M ARGINAL UTILITY T ABLE
Units of Money MU x/ P x MU y /P y
1 11 9
2 10 8
3 9 7
4 8 6
5 7 56 6 4
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LIMITATIONS OF THE LAW
Rationality
Effects of Fashion and Customs
Ignorance
Indivisible Units Questionable Assumptions
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PRACTICAL IMPORTANCE OF THELAW
Applications to Consumption
Applications to Production
Applications to Exchange
Price Determination Applications to Distribution
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Thank Q
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A consumer consumes two goods A and B
and he makes five combinations a,b,c,d
and e of the two substitute commodities.
Combinations Units of Commodity
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Indifference curve have a negative slope.
Indifference curve of imperfect substitutes are
convex to the origin.
Indifference curve do not intersect nor are they
tangent to one another.
Upper indifference curves indicate a higher level of
satisfaction
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CONSUMER EQUILIBRIUM
The indifference map in combination with thebudget line allows us to determine the onecombination of goods and services that theconsumer most wants and is able to purchase.
This is the consumer equilibrium.
The consumer maxi-mizes satisfaction bypurchasing thecombination of goods that is on theindifference curvefarthest from theorigin but attainable given theconsumer’s budget.
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INCOME EFFECT
The Income Effect is defined as the
total change in the quantity
consumed of a commodity due to
change in its income.
The increase in demand on account
of an increase in real income is
known as income effect.
The increase in real income
encourages the consumer to
demand more goods and services
7/30/2019 Unit-III Utility Analysis
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PRICE EFFECT
The Price Effect is defined as
the total change in the
quantity consumed of a
commodity due to change
in its price.
Price Consumption Curve is a
locus of points of
equilibrium on indifference
curves, resulting from thechange in the price of a
commodity.
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Substitution Effect arises due to
the consumer’s inherent
tendency to substitute cheaper
goods for the relatively
expensive ones.
7/30/2019 Unit-III Utility Analysis
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CONCLUSION
The indifference curve indicates what the consumer
is willing to buy
The budget line shows what the consumer is able
to buy
When the indifference curve and the budget line are
combined, we find the quantities of each good the
consumer is both willing and able to buy
7/30/2019 Unit-III Utility Analysis
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Income Consumption Curve
It is defined as a curve that joins
different equilibrium points whenthe income of the consumer
changes with fixed price.
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INTRODUCTION
An Indifference Curve is defined as the
locus of points each representing a
different combination of two substitute
goods, which yield the same utility or
level of satisfaction to the customer.
An Indifference Curve is also called as Iso-utility
curve and Equal utility curve.