The Law of Diminishing Marginal Utility

Law of Diminishing Marginal Utility is the foundation stone of utility analysis. All of us experience this law in our daily life. The law of diminishing marginal utility is universal in character. It is based upon the important fact that human wants are unlimited but a single want can be satisfied at a particular time.

“The additional benefit, which a person derives from a given increase of a stock of a thing diminishes, other things being equal, with every increase in the stock that he already has.”-Prof. Marshall

Definition of ‘Law of Diminishing Marginal Utility’

It is clear from the above definitions that at a given time when we go on consuming additional units of a commodity, the marginal utility from each successive unit of that commodity, other things being equal, goes on diminishing in relation to the preceding unit. It is this diminishing tendency of the marginal utility that has been enshrined in the law of diminishing marginal utility.

Simply put, as the rate of commodity consumption increases, marginal utility decreases. If commodity consumption continues to rise, marginal utility at some point falls to zero, reaching maximum total utility. Further increase in consumption of units of commodities causes marginal utility to become negative; this signifies dissatisfaction.

Suppose, a man is very thirsty. He goes to the market and buys one glass of sweet water. The glass of water gives him immense pleasure or we say the first glass of water has great utility for him. If he takes second glass of water after that, the utility will be less than that of the first one. It is because the edge of his thirst has been blunted to a great extent. If he drinks third glass of water, the utility of the third glass will be less than that of second and so on. The utility goes on diminishing with the consumption of every successive glass of water till it drops down to zero. This is the point of satiety. It is the position of consumer’s equilibrium or maximum satisfaction. If the consumer is forced further to take a glass of water, it leads to disutility causing total utility to decline. The marginal utility will become negative. A rational consumer will stop taking water at the point at which marginal utility becomes negative even if the good is free.

Units of Commodity

Total Utility

Marginal Utility

1

3

8

2

14

6

3

16

2

4

16

0

5

14

-2

CAUSES OF OPERATION OF LAW:

The law of diminishing marginal utility is based upon three facts:

First, total wants of a man are unlimited but each single want can be satisfied. As a man consumes more and more units of a commodity, his desire for that good goes on falling. A point is reached when the consumer no longer wants any more units of that good.

Secondly, different goods are not perfect substitutes for each other in the satisfaction of various particular wants. As such the marginal utility will decline as the consumer gets additional units of a specific good. (Prof. Boulding)

Thirdly, the marginal utility of money is constant given the consumer’s wealth.

ASSUMPTIONS OF LAW OF DIMINISHING MARGINAL UTILITY

The law of diminishing marginal utility is true under certain assumptions. These assumptions are as under:

  • Rationality: In the cardinal utility analysis, it is assumed that the consumer is rational. He aims at maximization of utility subject to availability of his income.
  • Constant marginal utility of money: It is assumed in the theory that the marginal utility of money based for purchasing goods remains constant. If the marginal utility of money changes with the increase or decrease in income, it then cannot yield correct measurement of the marginal utility of the good.
  • Diminishing marginal utility: Another important assumption of utility analysis is that the utility gained from the successive units of a commodity diminishes in a given time period.
  • Utility is additive: In the early versions of the theory of consumer behavior, it was assumed that the utilities of different commodities are independent. The total utility of each commodity is additive.

U = U (X) + U (X) + U (X)………. U (X) 

  • Consumption to be continuous: It is assumed in this law that the consumption of a commodity should be continuous. If there is interval between the consumption of the same units of the commodity, the law may not hold good. For instance, if you take one glass of water in the morning and the 2nd at noon, the marginal utility of the 2nd glass of water may increase.
  • Suitable quantity: It is also assumed that the commodity consumed is taken in suitable and reasonable units. If the units are too small, then the marginal utility instead of falling may increase up to a few units.
  • Character of the consumer does not change: The law holds true if there is no change in the character of the consumer. For example, if a consumer develops a taste for wine, the additional units of wine may increase the marginal utility to a drunkard.
  • No change to fashion: Customs and tastes: If there is a sudden change in fashion or customs or taste of a consumer, it can than make the law inoperative.
  • No change in the price of the commodity: there should be any change in the price of that commodity as more units are consumed.

EXCEPTIONS OF LAW OF DIMINISHING MARGINAL UTILITY

There are some exceptions to the law of diminishing utility.

  • Initial units: When the initial units of a commodity in used is less then appropriate quantity, then the marginal utility from the additional units goes on
  • Case of intoxicants: Consumption of liquor defies the low for a short period. The more a person drinks, the more likes it. However, this is truer only initially. A stage comes when a drunkard too starts taking less and less liquor and eventually stops it.
  • Rare collection: If there are only two diamonds in the world, the possession of 2nd diamond will push up the marginal utility.
  • Application to money: The law equally holds good for money. It is true that more money the man has, the greedier he is to get additional units of it. However, the truth is that the marginal utility of money declines with richness but never falls to zero.
  • Hobbies: In case of certain hobbies like stamp collection or old coins, every addition unit gives more pleasure. MU goes on increasing with the acquisition of every unit.
  • Reading: reading of more books gives more knowledge and in turn greater satisfactions.
  • Misers: It seems law does not apply to misers who are out to acquire more and more of wealth. Their desire for money seems to be insatiable.

Summing up, we can say that the law of diminishing utility, like other laws of Economics, is simply a statement of tendency. It holds good provided other factors remain constant.

Importance of the law of DMU

  1. Basic of economic law and concepts: This law of DMU forms the basis of law of demand, law of Equi-marginal utility, elasticity of demand and concept of consumer surplus.
  2. Variety in production and consumption: It is because of the operation of the law of diminishing marginal utility that variety in production and consumption is Continuous consumption of one commodity will yield less and lessmarginal utility to the consumers. So every prudent consumer stops theconsumption of that good after a particular limit and shift to other commodity.
  3. Difference between value in use and value in exchange: According to Adam Smith goods having more value in use command low price and those having more value in exchange command high price. It can be explained on the basis of diminishing marginal utility as there is abundant supply of water air etc and the same can be used in large quantity, consequently there marginal utility falls rapidly and so is the price. Thus goods having more value in use have less marginal utility.
  4. Price determination: Price of every commodity is determined by its demand and supply. Demand for a commodity depends upon its marginal utility. The consumer buys more units only when the price per unit falls. 
  5. Basis of progressive taxation: Progressive taxation system refers to that system of taxation under which rate of taxation increases as the income of person increases. It is so because with increase in income marginal utility of money goes on diminishing
  6. Advantage to the consumer: According to this law, in order to get maximum satisfaction from the consumption of a good a consumer should buy only that many units of it whose marginal utility is equal to its price.
  7. Basis of redistribution:According to this law the fundamental reason of redistribution of income is that marginal utility of money to the rich is less then to poor. So it wealth is redistributed in favor of poor, total welfare of society would increase.

Criticism:

  1. Cardinal measurement of utility is not possible.
  2. Marginal utility of money is not constant.
  3. Every commodity is not an independent commodity.

 No commodity is independent, as the marginal utility of one commodity has no effect on the consumption of other commodities. It is very difficult to make precise estimate of marginal utility.

  1. Marginal utility cannot be estimated in all conditions

Marginal utility of only those commodities can be estimated which are divisible, but in real life many commodities are not divisible.

  1. Unrealistic assumption: This law is based on many unrealistic assumptions. It is applicable only when the tastes, habits, fashion, income etc. of the consumer remains constant. But in actual life all these are ever changing.

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