2.1.

1 UTILITY: MEANING AND DIFFERENT KINDS/ASPECTS OF UTILITY

Utility:
When we consume a product, we in fact use its utility. Therefore, we are now analyzing the concept of utility.
Utility is the power of a product by which a human want is satisfied. For example, bread satisfies hunger, cloth
satisfies the want for clothes and T.V. satisfies the want for entertainment. The more we want a product the
more utility we get from it and if we don’t use a product, we don’t get utility from it. Hindus don’t eat beef so
there is no utility for them in it. Muslims don’t eat pork. So, they don’t find utility in it. Europeans take both
pork and beef. They get utility from these products.
A consumer is always interested in the maximization of utility because he has limited resources to spend on
consumer goods. Before we explain the law to maximize total utility, let us first explain different aspects of
utility.
Following are different kinds or aspects of utility.
Initial Utility:
Initial utility is the utility which a person acquires from the use of first unit of a commodity.
Marginal Utility (MU)
Marginal utility can be defined as the change in the total utility resulting from one-unit change in the
consumption of the commodity per unit of time. Or It is the addition made to the total utility by consuming
one more unit, next unit or the last unit of a commodity OR marginal utility is the rate of change of total utility.
Or Separate utility of every unit is also called marginal utility.
We can measure marginal utility with the help of following formula
Marginal Utility = Change in Total Utility / Change in per unit quantity consumed.

OR MU = ΔTU / ΔQ
Total Utility:
Total Utility is attained from the use of specific number of a commodity is called total utility. Total utility is
equal to the sum of separate utility which is attained from every unit. Or Total utility is the addition of marginal
utilities or the utility derived from all the units of commodity consumed by a consumer. Or Total utility is the
utility which a person acquires from consuming some units of a commodity. It is the sum of marginal utilities.
TU = MU1 + MU2 + MU3+ …. + MUN
Zero Utility:
When there is no desire to consume more units of a commodity or a want is satisfied the marginal utility is
called zero. Or when there is no change in total utility by the consumption of more or additional units of a
commodity.
Positive Utility:
Marginal utility greater than zero is positive i.e., until and unless there is a desire for a consumer to consume
more units of a commodity utility is positive. If a unit of a commodity is yielding satisfaction to consumer it
has positive utility.

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Negative Utility:
Negative utility is the utility which a person acquires from the use of different units of a commodity which
results into decrease in total utility. This utility is always after zero utility or less than zero.
Average Utility:
Average utility is the utility which can mathematically be found as the total utility acquired to a person from
the consumption of all the units of a commodity divided by the number of units consumed.
Maximum Utility:
Maximum utility is the utility which a person acquires from the use of some units of a commodity provided
that he must reaches at zero utility from the last unit consumed.
Utility function:
U= f(Q)
Utility is the function quantity of a commodity consumed.

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2.1.2 CARDINAL AND ORDINAL APPROACHES TO CONSUMER BEHAVIOR
The utility is a psychological phenomenon; that implies the satisfying power of a good or service. It differs
from person to person, as it depends on a person’s mental attitude. The measurability of utility is always a
matter of dispute. The two principal theories for the utility are cardinal utility and ordinal utility. Many
traditional economists hold the view that utility is measured quantitatively, like length, height, weight,
temperature, etc. This concept is known as cardinal utility concept. On the other hand, ordinal utility concept
expresses the utility of a commodity in terms of ‘less than’ or ‘more than'. Let’s discuss important differences
between cardinal and ordinal utility.
Cardinal Utility
The notion of Cardinal utility was formulated by Neo-classical economists, who hold that utility is measurable
and can be expressed quantitatively or cardinally, i.e., 1, 2, 3, and so on. The traditional economists developed
the theory of consumption based on cardinal measurement of utility, for which they coined the term ‘Util’
expands to Units of utility. It is assumed that one util is equal to one unit of money, and there is the constant
utility of money.
Further, it has been realized with the passage of time that the cardinal measurement of utility is not possible,
thus less realistic. There are many difficulties in measuring utility numerically, as the utility derived by the
consumer from a good or service depends on a number of factors such as mood, interest, taste, preferences
and much more.
Ordinal Utility
Ordinal Utility is propounded by the modern economists, J.R. Hicks, and R.G.D. Allen, which states that it is
not possible for consumers to express the satisfaction derived from a commodity in absolute or numerical
terms. Modern Economists hold that utility being a psychological phenomenon, cannot be measured
quantitatively, theoretically and conceptually. However, a person can introspectively (according to one's own
thoughts and feelings) express whether a good or service provides more, less or equal satisfaction when
compared to one another.
In this way, the measurement of utility is ordinal, i.e., qualitative, based on the ranking of preferences for
commodities. For example: Suppose a person prefers tea to coffee and coffee to milk. Hence, he or she can
tell subjectively, his/her preferences, i.e., tea > coffee > milk.
The following points are noteworthy so far as the difference between cardinal and ordinal utility is concerned:
1. Cardinal utility is the utility wherein the satisfaction derived by the consumers from the consumption
of good or service can be measured numerically. Ordinal utility states that the satisfaction which a
consumer derives from the consumption of product or service cannot be measured numerically.
2. Cardinal utility measures the utility objectively, whereas ordinal utility measures the utility
subjectively.
3. Cardinal utility is less realistic, as quantitative measurement of utility is not possible. On the other end,
the ordinal utility is more realistic as it relies on qualitative measurement.
4. Cardinal utility, is based on marginal utility analysis. As against this, the concept of ordinal utility is
based on indifference curve analysis.
5. The cardinal utility is measured in terms of utils, i.e., units of utility. On the contrary, the ordinal utility
is measured in terms of ranking of preferences of a commodity when compared to each other.
6. Cardinal utility approach propounded by Alfred Marshall and his followers. Conversely, ordinal utility
approach pioneered by Hicks and Allen.

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2.1.3 LAW OF DIMINISHING MARGINAL UTILITY:
Definition of the Law:
The law of diminishing marginal utility describes a familiar and fundamental tendency of human behavior.
The law of diminishing marginal utility states that:
“As a consumer consumes more and more units of a specific commodity, the utility from the successive units
goes on diminishing”.
Mr. H. Gossen, a German economist, was first to explain this law in 1854. Alfred Marshal later on restated
this law in the following words:
“The additional benefit which a person derives from an increase of his stock of a thing diminishes with every
increase in the stock that already has”.
Assumptions:
Following are the assumptions of the law of diminishing marginal utility.
1. The utility is measurable and a person can express the utility derived from a commodity in quantitative
terms such as 2 units, 4 units and 7 units etc.
2. A rational consumer aims at the maximization of his utility.
3. It is necessary that a standard unit of measurement is constant.
4. A commodity is being taken continuously. Any gap between the consumption of a commodity should
be suitable.
5. There should be proper units of a good consumed by the consumer.
6. It is assumed that various units of commodity are homogeneous in characteristics.

Explanation with Schedule and Diagram:

We assume that a man is very thirsty. He takes the glasses of water successively. The marginal utility of the
successive glasses of water decreases, ultimately, he reaches the point of satiety(full). After this point the
marginal utility becomes negative, if he is forced further to take a glass of water. The behavior of the consumer
is indicated in the following schedule:
Marginal Utility
Units of commodity Total Utility (TU)
(MU)
1st glass of water 10 10
2nd glass of water 8 18
3rd glass of water 6 24
4th glass of water 4 28
5th glass of water 2 30
6th glass of water 0 30
7th glass of water -2 28

On taking the 1st glass of water, the consumer gets 10 units of utility, because he is very thirsty. When he
takes 2nd glass of water, his marginal utility goes down to 8 units because his thirst has been partly satisfied.
This process continues until the marginal utility drops down to zero which is the saturation point. By taking
the seventh glass of water, the marginal utility becomes negative because the thirst of the consumer has already
been fully satisfied.
The law of diminishing marginal utility can be explained by the following diagram drawn with the help of
above schedule:
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In the above figure, the marginal utility of different glasses of water is measured on the y-axis and the units
(glasses of water) on X-axis. With the help of the schedule, the points A, B, C, D, E, F and G are derived by
the different combinations of units of the commodity (glasses of water) and the marginal utility gained by
different units of commodity. By joining these points, we get the marginal utility curve. The marginal utility
curve has the downward negative slope. It intersects the X-axis at the point of 6th unit of the commodity. At
this point "F" the marginal utility becomes zero. When the MU curve goes beyond this point, the MU becomes
negative. So we can observe the diminishing marginal utility from the graph.
Exceptions or Limitations:
The limitations or exceptions of the law of diminishing marginal utility are as follows:
1. The law does not hold well in the rare collections. For example, collection of ancient coins, stamps
etc.
2. The law is not fully applicable to money. The marginal utility of money declines with richness but
never falls to zero.
3. It does not apply to the knowledge, art and innovations.
4. The law is not applicable for precious goods.
5. Law does not operate if consumer behaves in irrational manner. For example, drunkard is said to enjoy
each successive peg more than the previous one.

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2.1.4 LAW OF EQUI-MARGINAL UTILITY:
The law of equi marginal utility was presented in 19th century by an Australian economists H. H. Gossen. It
is also known as law of maximum satisfaction or law of substitution or Gossen's second law. A consumer has
number of wants. He tries to spend limited income on different things in such a way that marginal utility of
all things is equal. When he buys several things with given money income, he equalizes marginal utilities of
all such things. The law of equi marginal utility is an extension of the law of diminishing marginal utility. The
consumer can get maximum utility by allocating income among commodities in such a way that last dollar
spent on each item provides the same marginal utility.
Definition:
"A person can get maximum utility with his given income when it is spent on different commodities in such
a way that the marginal utility of money spent on each item is equal".
It is clear that consumer can get maximum utility from the expenditure of his limited income. He should
purchase such amount of each commodity that the last unit of money spend on each item provides same
marginal utility.
Assumptions:
Assumptions of the Law of Equi Marginal Utility:
1. There is no change in the prices of the goods.
2. The income of consumer is fixed.
3. The marginal utility of money is constant.
4. Consumer has perfect knowledge of utility obtained from goods.
5. Consumer is normal person so he tries to seek maximum satisfaction.
6. The utility is measurable in cardinal terms.
7. Consumer has many wants.
8. The goods have substitutes.
Explanation With Schedule and Diagram:
The law of substitution can be explained with the help of an example. Suppose consumer has six dollars that
he wants to spend on apples and bananas in order to obtain maximum total utility. The following table shows
marginal utility (MU) of spending additional dollars of income on apples and bananas:
Money (Units) MU of apples MU of bananas
1 10 8
2 9 7
3 8 6
4 7 5
5 6 4
6 5 3
The above schedule shows that consumer can spend six dollars in different ways:
• $1 on apples and $5 on bananas. The total utility he can get is: [(10) + (8+7+6+5+4)] = 40.
• $2 on apples and $4 on bananas. The total utility he can get is: [(10+9) + (8+7+6+5)] = 45.
• $3 on apples and $3 on bananas. The total utility he can get is: [(10+9+8) + (8+7+6)] = 48.
• $4 on apples and $2 on bananas. This way the total utility is: [(10+9+8+7) + (8+7)] = 49.
• $5 on apples and $1 on bananas. The total utility he can get is: [(10+9+8+7+6) + (8)] = 48.
Total total utility for consumer is 49 utils that is the highest obtainable with expenditure of $4 on apples and
$2 on bananas. Here the condition MU of apple = MU of banana i.e 7 = 7 is also satisfied. Any other allocation
of the last dollar shall give less total utility to the consumer.
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The same information can be used for graphical presentation of this law:

The diagram shows that consumer has income of six dollars. He wants to spend this money on apples and
bananas in such a way that there is maximum satisfaction to the consumer.
Exceptions or Limitations:
1. The law is not applicable in case of knowledge. Reading of books provides more satisfaction and
knowledge to the scholar. Different books provide variety of knowledge and satisfaction.
2. The law is not applicable in case of indivisible goods. The consumer is unable to divide the goods to
adjust units of utility derived from consumption of goods.
3. There is no measurement of utility. It is psychological concept. It is not possible to express it into
quantitative form.
4. There are certain lazy consumers. They do not care for maximum utility. The law fails to operate in
case of laziness of consumers. They go on consuming goods without comparing utility.
5. It does not work when there are frequent prices changes. The consumer is unable to calculate utility
of different commodities. Changing price levels create confusion in the minds of consumers.
Importance:
1. The law of equi marginal utility is helpful in the field of production. The producer has limited
resources. He uses limited resources to purchase production factors. He tries to equalize marginal
utility of all factors. He wishes to get maximum output and profit.
2. The law is applicable in consumption. A rational consumer tries to get maximum satisfaction when
he spends his limited resources on various things. He tries to equalize weighted marginal utility of all
the things.
3. The law is applicable in public finance. The government can spend its revenue to get maximum
social advantage. The marginal utility of each dollar spent in one sector must be equal to marginal
utility derived from all other sectors.
4. The law holds well in case of saving and spending. The consumer can make choice between present
wants and future wants. He can feel that a dollar saved has greater utility than a dollar spent, he can
save more and spend less. He will substitute saving and spending till marginal utility of a dollar spent
and a dollar saved are equal.
5. The law is helpful in prices. Due to scarcity of commodity its prices go up. The law tells us to use
substitute commodity, which is less scarce. The result is that the price of commodity comes down.