THE CONCEPT OF UTILITY. ELEMENTARY TREATMENT OF UTILITY THEORY. At the end of this post, you should be able to: Explain the concept of total, average and marginal utility. Demonstrate knowledge of the principles of utility maximization and diminishing marginal utility.
Explain why the demand curve is downward sloping.
WHAT IS UTILITY CONCEPT?
In other words, utility refers to the amount of satisfaction a person derives from the consumption of a commodity or service at any given time.
It should be noted that any commodity or service that possesses utility is useful to the consumer. Usefulness of a commodity is a relative term, meaning that what is useful to Mr. A may not be useful to Mr. B.
Utility is therefore relative to a consumer and the variations among the individuals or consumers depend on time, place and form. Thus, utility, which is the capacity of a commodity or service to satisfy a human want, depends on time, place and form.
TYPES OF UTILITY
- Form utility: Form utility refers to the change in the form or structure of a commodity during its manufacturing process in order to increase its utility.
For example, a change in the form of raw cotton to a clothing material. Cotton in its raw form does not give satisfaction until it is changed to a clothing material.
- Place utility: Place utility involves changing of location of a commodity from one geographical area where it has utility to another area where its utility is higher.
For example, cattle are mainly reared in the North where it has little utility but transported to the South where it has higher utility.
- Time utility: Time utility refers to the satisfaction of a consumer will derive from the consumption of
a particular commodity at a given time. All goods produced do not give satisfaction same time.
Some products have to be stored and released later in create higher utility on them, especially when their price increases.
CONCEPTS OF TOTAL, MARGINAL AND AVERAGE UTILITY
- Total Utility: Total utility refers to the amount of satisfaction a consumer derives the consumption of a commodity at a particular time.
In other words, it refers to the amount of satisfaction derived from all the units of a commodity consumed at a particular.
As a consumer uses more and more of a commodity, its utility increases until it gets to a maximum point.
total utility (TU) = Average utility x Quantity
- Marginal Utility (MU): Marginal utility refers to the additional satisfaction derived by consuming an extra unit of a commodity. There is therefore a change in the total utility as a result the consumption of additional unit of a commodity.
In other words, it measures the it to which the consumers’ total satisfaction would be increased if he went ahead to consume additional unit of the commodity.
- Average utility (AU): Average utility refers to the satisfaction which a consumer derives per unit of a commodity consumed. Average utility, represented graphically, is derived by dividing the total utility by the number of commodities consumed. This is reflected in this formula:
The total utility, marginal utility and average utility can easily be related via a simple calculation using their formulae and a schedule as shown in
Total, average and marginal utility schedule as a concept of utility
|Quantity of goods consumed||Total utility||Average utility||Marginal utility|
|1 2 3 4 5||8 14 18 22 25||8 7 6 5.5 5||– 6 4 4 3|
RELATIONSHIP BETWEEN TOTAL UTILITY AND MARGINAL UTILITY
There is a unique relationship between total utility (TU) and marginal utility (MU). Their relationship can be summarized in the following ways:
The Marginal utility begins to fall right after the first unit of the commodity has been consumed and continues to diminish until it reaches zero and below. In contrast, however, total utility increases
right from the first unit consumed although the increase is small for every extra unit consumed
At the point where the marginal utility reaches zero, i.e. where the MU curve cuts the x-axis, total utility reaches its maximum point. This point is called saturation point.
When the marginal utility becomes negative, total utility begins to fall and when the MU curve descends below the x-axis, the TU curve begins to slope downwards.
Total utility and marginal utility schedule
|Units Consumed||Total utility||Marginal utility|
|1 2 3 4 5 6 7||10 16 20 23 25 22 17||10 6 4 3 2 -3 -5|
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