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Utility-Types Measurement

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20 views10 pages

Utility-Types Measurement

Uploaded by

Atharv
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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What Is Utility?

Utility Definition – It is a measure of satisfaction an individual gets from


the consumption of the commodities. In other words, it is a measurement
of usefulness that a consumer obtains from any good. A utility is a
measure of how much one enjoys a movie, favourite food, or other
goods. It varies with the amount of desire.
Measurement of Utility

Cardinal Approach

In this approach, one believes that it is measurable. One can express his or her
satisfaction in cardinal numbers i.e., the quantitative numbers such as 1, 2, 3, and so on.
It tells the preference of a customer in cardinal measurement. It is measured in utils.

Limitation of Cardinal Approach


• In the real world, one cannot always measure utility.
• One cannot add different types of satisfaction from different goods.
• For measuring it, it is assumed that utility of consumption of one good is independent of
that of another.
• It does not analyze the effect of a change in the price.
Ordinal Approach

In this approach, one believes that it is comparable. One can express his or her
satisfaction in ranking. One can compare commodities and give them certain
ranks like first, second, tenth, etc. It shows the order of preference. An ordinal
approach is a qualitative approach to measuring a utility.

Limitation of Ordinal Approach

• It assumes that there are only two goods or two baskets of goods. It is not
always true.
• Assigning a numerical value to a concept of utility is not easy.
• The consumer’s choice is expected to be either transitive or consistent. It is
always not possible.
Types of Utility

It is basically of three types

• Total Utility
• Marginal Utility
• Average Utility

Total
The sum of the total satisfaction from the consumption of specific
goods or services. It increases as more goods are consumed.

Total Utility (T.U.) = U1 + U2 + … + Un


Marginal

It is the additional satisfaction gained from each extra unit of consumption.


It decreases with each additional increase in the consumption of a good.

Marginal Utility (M.U.) = Change in T.U. / Change in Total Quantity = Δ


TU/ Δ Q
Average
One can obtain it by dividing the total unit of consumption by the number
of total units. Suppose there are total n units, then

Average Utility (A.U.) = T.U. / Number of units = T.U. / n


Types of Economic Utility

Form: It refers to the specific product or service that a company


offers.

Place: It refers to the convenience and readiness of the services


available at a place to the customer

Time: It refers to the ease of availability of products or services at the


time when a customer needs.

Possession: It refers to the benefit a customer derives from the


ownership of a company’s product.
What Is the Law of Diminishing Marginal Utility?

The law of diminishing marginal utility states that all else equal, as
consumption increases, the marginal utility derived from each
additional unit declines. Marginal utility is the incremental increase in
utility that results from the consumption of one additional unit.
"Utility" is an economic term used to represent satisfaction or
happiness.
Assumptions:

• The goods being consumed are identical.

• The units are consumed quickly with few breaks in between.

• Units are not too big or too small.

• The consumer's taste is constant.

• There is no change in the price of the goods or of their substitutes.

• The unit can be measured.

• The consumer is making rational decisions about consumption.


Limitations

When it comes to making business decisions, there are some limitations to the law of
diminishing marginal utility. The law will not operate properly, or may not even apply,
if:

• The units being consumed are very small.

• The units being consumed are of different sizes.

• There are long breaks in between consuming the units.

• The consumer is thinking or behaving irrationally, or the consumer is suffering from


a mental illness or addiction.

• The units being consumed are part of a collection or are rare objects.

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