1. Why law of Diminishing Marginal Utility is considered to be a universal truth? Also. in the relationship between Total and Marginal Ustlity. (2016 ae The utilty of the seme good may be different to diferent persons, and may even be ‘ferent to the same person in different circumstances. But one important aspect of utlity is ‘hat at any given time, all the units of commodity that 2 consumer adds to his stock, do not give aus tity to him, Suppose, the first orange that you consume gives You utility worth 10, the will give you utility worth less than %40, and the third one stil less and so on. This +s of successive units of a good diminish, when a consumer adds ore to his stock a a elven time, this is known as the ‘Law of Diminishing Marginal Utility’, and “is considered to be a universal truth. The Law of Diminishing Marginal "good ata given time, its marginal utility (or what isthe same thing—the extra utility added by eaersive units) tends to diminish. This means that as you consume more oranges 3t any given “time, utlty derived from the successive oranges would diminish, Your total utility undoubtedly “increases but at a di .¢ the important law with the help of a simple vie Imagine 2 man is consuming oranges one by one and teling you exactly how much utility _ he gets from each orange. “Thegiven table records his statement about the imer consumes (acquires) more of utility of each orange separately as he consumes Marginal and Total Utility Marginal Utility 4 Total Utility (ee Ins the utility of an “additional” unit. The first orange is first orange is the marginal utility. The second oran : y from it is the marginal utility, “Marginal” is ‘not fixed, it is movit ‘every additional unit consumed should be considered as the marginal that unit should be termed as marginal utility: I is cleat fro ‘of oranges toa consumer is going down: Marginal utility negative. Negative utility means that the consumer does | ‘to get only negative satisfaction. Total utility is the ut is the sum of all the marginal utilities.30 SHIVDAS Delhi University Series ‘same phenomenon can be shown with the help of a figure. the figure the quantity of oranges is measured along the X-axis and utility alon The Marginal Utility Curve (MU) has a downward or negative slope as additional units, tive tity from the sixth orange, The marginal utility curve, Eko Nhe Total Utility Curve (TU), on the other hand, slopes up Tight to indicate that total utility increases with the consumption of additional units L The rate of increase in total utility is not constant but declines steadily. The total Teaches a maximum point at Land then declines, % Total utility curve 2 ao i Tu 2g i a i or Marginal utility chrve ze? i Point of Ni Satery © Negative a L utlity MU, Units of Oranges The relationship between marginal utility and total utility can be summarized as follows: ( When marginal utility declines but is positive, Total utility increases but at diminishi rate. (i) When marginal utility reaches zero, Total utlity has reached its maximum, {ii When marginal utility becomes negative, total utility declines from the maximum point, This, in substance, is the famous law of diminishing marginal utility. This law Is based on tl following assumptions: * different units of a commodity are homo; Quality, taste etc.; * there is no time interval between the consumption of two units of a ‘commodity, consumption of the different units of a commodity should be continuous; * tastes, fashions etc., of the consumer remain the same. Q. 2. Explain the law of equi-marginal utility. {2017 Ans. Law of equi-marginal utility. Law of equi-marginal utility states that consumer will reach the stage of equilibrium, i.e., maximum total satisfaction when the marginal utilities of the various commodities that he consumes are equal. At any given time a number of commodities compete for the limited income of the consumers. : In terms of utilities, different g00dS offer different opportunities for him. For each rupee of his income the consumer always selects the best of the available opportunities. When each rupee of a consumer's income has been spent in its best available usé, his total satisfaction (or utility) is maximized and the consumer is said to be in equilibrium. In order to elaborate this point let us take an example. Suppose the dally income of a consumer is €15 and with this income he wants | to purchase his daily supplies of goods X, Y and Z, all of which sell at 21 per unit. geneous or identical in all respects, i-e,, in size,Chapter 2: Consumer Behaviour @ 31 "The given table gives the marginal utility schedules ofthe three goods in question. Unit of Goods MUy Muy, ‘MU; 1 18 (1) 10 (5) 9 (7) 2 16 (2) 9 (6) 7 (41) 3 14 (3) 8 (9) 5 (15) 4 22 (a) 7 (10) 3 5 8 (8) 6 (12) 6 5 (13) 5 (14) 7 3 3 The marginal utilities of different units of the three goods offer the different opportunities OF “spending his money to the consumer. in order to maximize his total satisfaction, the consumer will 100k for the best available opportunity for each rupee of his income. The three goods offer three different opportunities in terms of utility for the first rupee of his income. The consumer ‘can spend his first rupee on any of the three goods. if he spends the first rupee on X, then he will obtain 18 units of utility; if he spends it on ¥, then he will get 10 units of utility; and if he spends it on Z, then he will get only 9 units of utility. Out of these three alternative opportunities for his first rupee he will choose to spend his first rupee on X and not on Y or Z. If you examine the marginal utility schedules of the three goods carefully, you will find that for the first four rupees the best opportunities of spending are offered by the first four units of X which give him 18, 16, 44 and 12 units of utilities. Having spent first four rupees on the first four best opportunities, the next best opportunity is offered by the first unit of ¥, which offers 10 units of utlity for the fifth rupee of the consumer. y According to the next available opportunities, the consumer will spend sixth rupee on the second unit of ¥ or seventh rupee on the first unit of Z. In this way, the consumer proceeds step by step and spends each rupee of his income to its best available use. Ifa rupee spent on ¥ gives him greater utility than a rupee worth of X or Z, the consumer will spend his rupee on Y and so on: One by one the consumer exhausts all the best available opportunities and ultimately ends up ina situation where the last rupee brings in the same utility, e., 6, whether spent on X or ¥ or Z, IFthe last rupee brings in the same increment of utility, when spent on any good, total utility for Bien income is maximized and we say that the consumer isin equilibrium. in the example given above, the consumer will spend his income (®15) on the purchase of 6 units of X, 6 units of ¥ and Sinits of 2. If we add the marginal utlties which the consumer gets from the 6 units of X, 6 units ofY and 3 units of 2, he will get the maximum total utility, ie., 139 as follows: Total utility from X = 18 +16 + 14+12+8+5=73 Total utility from Y= 10+948+74+6+5 Total utility fromZz=9+745~=21 Total utility from x, Y and 2 = 139 'f the consumer spends his income on any other combination of X, ¥ and Will be less than 139. Suppose he spends his income on the purchase of 7 Vand 3 units of 2, in that case, his total utility will be 76 + 40 + 21 = iP gumum he can obtain. Therefore, the fundamental equilibrium condition sinc pSuMe? is to be best off in terms of total utility, would be that Ulty for his fast rupee when spent on any good. In the above examp whether spent on X, Y or Z. In other words, the cons BY dividing the marginal utilities of the different goods by ‘atios of marginal utilities to respective prices. These‘measurable. of cifferent commodities are independent. / of money to the consumer remains constant. Tsuctessive units of acommodity diminishes, ses more and more units of one commodity, ney Is | hhim to buy other goods and services. ‘ while purchas ‘commodity compares the price of y with the utility of a commodity he receives from it. So long ‘price (MU, > P,), the consumer would dem Py or the eq snsumer consumes more and more ul diminishing price at which the c wmodity.Chapter 2: Consumer Behaviour « 39 If that when price falls, other things remaining the same, the quantity, demanded of a good i | andvice versa: (The negative section ofthe MU curve does net form part of the dem | since negative quantities do not make sense in economics). 2. Derivation of the Demand Curve in the Case of Two or More than Te Coome ‘of Equi-Marginal Utility). The law of diminishing marginal utility can also be applied in case of ~ gr more than two goods. When a consumer has to spend a certain given income on a number of | goods, he attains maximum satisfaction when the marginal utlities of the goods are proportional "to their prices as stated below. TOL et aah tn Derivation of Demand Curve. in the given figure (a), (b) and (c) the money income, the price of ~ x commodity (Px) and the price of Y commodity (Py) and constant marginal utility of money (MUyj),_ ~ the demand curve derived is illustrated. The consumer allocates his money income between X and — Y commodities to get OQ, units of good X [in figure (a)] and OY units of good Y [in figure on ‘commodities because the combination corresponds to: MU MU macan NUN ‘Constant at the OM level: YA MUy, (Constant) MUy Py Y Units of Commodity Y Figure (b) i 2 Units of Commodity X Figure (a) let us assume that money income and price of Y ‘ommodity remain constant but the price of X commodity Secreases. As a result of this money expenditure on _ commodity X rises resulting in MU,/Py curve to shift ‘towards right. The consumer now allocates his income to _ 00; quantity of X commodity and OY quantity of Y ‘fommodity because the combinations correspond to: My Muy? By ty MUM pepsant at OM level. Thus in response to decrease ‘nthe price from P, to P;’, the quantity demanded of a Quantity Demanded Figure (@) © relationship between price and quantity of a commodity. According to the | ishing marginal utility, a person gets less and less utility from satel an BB hei is neraret to buy. more units oot at a lower priChapter 2: Consumer Behaviour © 35 Perfectly inelastic means zero. [consumer's surplus~Q.7. Explain the concept of consumer 36 @ SHIVDAS Delhi University Series ‘surplus using the demand curve "water diamond paradox be explained in terms of consumer surplus? Ans. To understand consumer surplus using Demand Curve approach. We me ‘two assumptions: ; (i) The consumer faces a straight line (linear) downward sloping demand DD for good x. 5 (i) The ee ‘at which the good X is sold is given as Py and remains, unchange riod of analysis. ier ie Sarapaleutve DO a orca Py, a single consumer would purchase OX un However, OX* units includes a number of units of good X such aS Xz, Xa) X3 vn» Upto K to calculate the consumer surplus we need to determine what the consumer is willing ‘each unit and what he actually pays. His willingness to pay is determined from the d ‘Thus consumer surplus is measured as the area below the demand curve and above for the defined units of output. The concept of consumer surplus has helped to tesolve the water-diamond paradox—why are diamonds (non-essential) so expensive and water essential) so cheap? The paradox is resolved as follows—The total benefit from water consumption is substantial because water is so plentiful, the marginal utility from an additional unit of water is small. Therefore the consumer shall be willing to pay a very low amount for an additional glass of water. This low rice that the consumer pays reflects the low marginal utility of water given its abundant In such @ situation the consumer surplus is large and price is low. Diamonds are scarce, gh ‘demand, and therefore high prices. The marginal utility is high but total benefit is small. it has low consumer surplus and high price, Q. 8. What is an indifference curve? Discuss the properties of indifference curve. [2011 { Or, Can two indifference curves intersect each other? 0 ‘Ans. An indifference curve is locus of different combinations of two goods which gh Consumer same utility or satisfaction. To draw this, we must know the concept of preferer According to the preference theory, the consumer is able to express his/her preferences vvarious commodities or commodity bundles. To give it a proper structure, the preference func hhas to satisfy the some properties. These are also called axioms. It assumes that a consumer can express clearly his scale of preferences for any two or z00ds. In other words, a consumer, without measuring the satisfaction, can say whether t __¥arious combinations of two commodities, say X and Y, give him more or less or equialsatisfactio 25 compared to other combinations. The combinations giving him more satisfaction will P, ___ higher in his order of preferences and he will be indifferent among those combinations which giv _him equal satisfaction. Let us take an example. Suppose there are two commodities x and ¥. consumer knows thatthe diferent combinations A,B, CD and E of two commodities X -given in the table, give him same satisfaction, Indifference Schedule Commodity X (Units) 25 20 16 13 1jonsumer Behaviour # 37 Chapter since the consumer is. getting the same satisfaction from “each of the combinations, he will be indifferent in choosing y of them. He can choose the 1st of these five combinations, fe, Lunit of X and 25 units of ¥ or the 4th combination, fe, 4 units of X and 13 units of Y or any other combination, because “gach combination of X end Y gives equal satisfaction. The "consumer simply says that each of these five combinations of Ser ‘Commodity ¥ (units) ‘X and Y gives him the same satisfaction, but he does not say 5] "how much satisfaction he gets from each of the combinations. ot phx "fe plot these combinations of X and Y on a figure, as shown, Commodity X (units) will get a curve which is known as indifference curve, We represent commodity X on horizontal axis and Y on the vertical axis. Five different 2 ~ combinations, as given in table above are represented by points A, 8, C, D and E on the figure : ‘and by joining these points, we get a curve which is known as an indifference curve. All these ‘combinations are alike to him as each gives him same level of satisfaction and therefore, the ‘consumer will have no reason to prefer one combination to the other. In other words, the “consumer is indifferent in choosing any of these combinations, —~ We-can recognize indifference curves from their features (or characteristics or properties). ~ Generally they have four properties: +1 They always slope downwards from left to right; fi 2 Higher indifference curves are preferred to lower ones; +3. They are generally convex to the point of the origin of the two axes; and 4, They never intersect or touch each other. e "Indifference Curves always slope downwards form left to right. el "jn other words, indifference curves are negatively sloped. Every "indifference curve is based on ‘the assumption that the various ‘combinations of two commodities give equal satisfaction toa 5 ee we “consumer. In order to remain at the same level of satisfaction, the > ~ consumer will have to reduce the consumption of one commodity if 3 - ‘wants to increase the consumption of another commodity. In the 9, ‘example given earlier, if the consumer adds second unit of X he will Ic : ° "have to give up some units of ¥. If he adds second unit of X without ‘Good X (units) giving up some units of Y, he will have more satisfaction, which is inconsistent with the assumption of indifference curve. In terms of a figure, this means that an ‘indifference curve will slope downwards form left to right. This is shown in the given figure. 2. Higher Indifference Curves are preferred to lower ones. Consumers will always prefer a higher indifference curve to a lower one. This is due to the basic economic assumption that “more is always better”. For example, if someone is asked that if he wanted a free slice of ‘pizza or an entire pizza for free, what would he say? Who says 9 to a free pizza? Now, of course it’s not always that simple, basic economic theory we can assume that consumers preference for larger quantities. This is reflected in the ce curves, The higher the indifference curves are, the ger the quantities of both the goods. And thus, the more wards. This has to do with the marginal rate of substitution al utility of consuming a good decreases as its supply inc ling to give up more of this good in order to get another g ‘The graph shows that if a consumer has a lot of ie