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1. utility analysis

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Tazmohol Hossen
Tazmohol Hossen

This document discusses concepts from utility analysis including the definition of utility, assumptions of utility analysis, forms of utility, marginalism, the law of diminishing marginal utility, utility schedules, utility curves, marginal utility of money, the relationship between marginal utility and price, supply, related goods, and applications of diminishing marginal utility analysis. It also discusses the law of equi-marginal utility, its schedule and limitations, and practical uses of the concept.

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Utility Analysis: Consumer behavior: is the foundation of utility Utility: is the quality or capacity of a product which enables it to satisfy human needs and wants. It is a power to satisfy want. The question of good or bad, ethical or unethical are not the part of the utility. Basic Assumptions of Utility Analysis: i) Rational consumer: people purchase product rationally ii) Fixed time: it deals with fixed time period iii) Income and test: of the people is constant iv) Independent: differ from product to product v) MU of money: is constant; rich vs. poor money utility vi) Introspection: differ from one people to another vii) Ordinal vs. cardinal measurement of utility: 1,2,3, or unit based measurement is ordinal and 1st phase, 2nd phase, 3dr phase is cardinal.
Forms of Utility: i) Form utility: change basic structure of product (wood) ii) Time utility: having a product available when we want iii) Place utility: product is ready accessible to customer iv) Possession utility: transfer the ownership v) Information utility: when information create value vi) Image utility: when image create value Marginalism: The revolution of marginal concept in the thought of economics. Individual units, price and production are controlled through this concept. Law of Marginal Diminishing Utility: The additional benefit which a person derives from a given increase of this stock of anything diminishes with the growth of the stock that he already has. (Herman Heinrich Gossen).
Utility Schedule Utility Total utility Average utility Marginal utility 1. 20 20 20 2. 38 18 18 3. 53 17.7 15 4. 64 11.5 11 5. 70 14 06 6. 70 11.7 00 7. 62 8.8 - 08 8. 46 5.75 - 18 i) Determination of price: Lower MU indicate high price ii) Profit level: MU = 0, profit will be higher iii) Production: higher total MU indicate highest production
quantity A B C DO M D P Q R S X Y 50 40 30 20 p r i c e Utility Curve Y O X U T 1 2 3 4 5 A B C E Total UtilityMarginal Utility
Marginal Utility of Money Does the law of DMU apply to money? There can be a limit to the purchase of commodity, but there is no such limit to the acquiring the money. A rich man attaches much less importance to each unit of money than poor. There is a difference between a poor spending 100 taka and a rich man spending 100 taka. Marginal Utility and Price Marginal utility and price are inter-related. The consumer stops where the price and the MU are equal. Price are not determinant of utility. If the price changes MU will changes too. They move together. Marginal Utility and Supply MU is a function of supply, it varies with supply. In case of free good, where the supply is unlimited, the MU is zero. The greater the supply the less the MU.
Marginal Utility and Related Goods a) Substitute goods: are capable to satisfy the same want; tee and coffee or rail and road transport. The MU of any such goods decreases as the quantity of substitute goods with the consumer increase. b) Complementary goods: are such goods which are wanted together for the satisfaction for a want; paper, pen and ink for writing. MU increases as the quantities of the complementary goods with consumer increase. Applications of DMU Analysis i) Taxation: determination of individual tax fixation; richer a person the higher is the rate of tax. ii) Price determination: the law explains why, with increase its supply, the value of commodity must fail. iii) Household expenditure: we stop further purchases at a point where marginal utility equals.
Applications of DMU Analysis iv) Downward demand curve: it is this law which tells us why demand curve slope downwards. v) Value-in-use and value-in exchange: air has grate utility but little value-in-exchange because it has no MU. vi) Socialism: socialists take stand on this law when they are advocate re-distribution of wealth in favor of poor. vii) Basis of micro economic: some very important laws of economics are based on DMU such as demand and its elasticity, consumers surplus, law of substitution. Paradox of Value i) Rules: a) Higher utility = higher price Water has the higher utility; so its price should be high. b) Lower utility = lower price Diamond has the lower utility; so its price should be low.
ii) Paradox: the opposite of the rules a) Higher utility = low price: water has the higher utility but the price of water is very low. b) Lower utility = higher price: diamond has the lower utility but the price of diamond is very high. iii) Analysis: the criticism of paradox value: a) Available supply: create low utility = low price like water. Water has the high use vale but exchange value is low. b) Limited supply: high utility = high price like diamond Diamond has low use vale but exchange value is very high. Limitations i) Suitable unites: units should be reasonable. ii) Suitable time: time duration should be appropriate iii) Consumer tests: hobby, music, money, literature iv) Normal: applicable for normal situation and people v) Constant income: if income is fluctuating
Limitations vi) Limited stock: possibility of out of market vii) Other possessing: ornaments, dress, materials viii) Fashion: goes down, utility goes down ix) Useless products: has no utility (Giffen goods) Law of Equi- Marginal Utility: i) Wants are unlimited: a) Competitive want: possession or fashion utility b) Less want: low priced product has less want c) Urgent want: medicine focuses urgent want ii) Money allocation: how the consumer would allocated his money income among various goods. iii) Satisfaction: distribute his income in such a way that the utility derived from the last taka spend on each good is equal.
Schedule of Equi- Marginal Utility Taka MU of Tea MU of Cigarette 1. 10 08 2. 09 07 3. 07 06 4. 05 04 5. 03 02 TU = 34 TU = 27 Combination: Tea & Coffee Total 1+4 10+08+07+06+04 = 35 2+3 10+09+08+07+06 = 40 3+2 10+09+07+08+07 = 41 4+1 10+09+07+05+08 = 39
Limitations: i) Calculation: calculation is difficult ii) Big expenditure: only applicable for big budget iii) Ignorance of consumer: dont know about substitute iv) Irrational consumption: slaves of custom or fashion v) Free goods: when it is unlimited vi) Assumption: depend on some questionable assumption Practical Uses of Equi-marginal Utility: i) It applies to choice of consumption ii) It applies to production iii) It applies to exchange iv) It applies to distribution v) It applies to price determination vi) It applies to public finance

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1. utility analysis

  • 1. Utility Analysis: Consumer behavior: is the foundation of utility Utility: is the quality or capacity of a product which enables it to satisfy human needs and wants. It is a power to satisfy want. The question of good or bad, ethical or unethical are not the part of the utility. Basic Assumptions of Utility Analysis: i) Rational consumer: people purchase product rationally ii) Fixed time: it deals with fixed time period iii) Income and test: of the people is constant iv) Independent: differ from product to product v) MU of money: is constant; rich vs. poor money utility vi) Introspection: differ from one people to another vii) Ordinal vs. cardinal measurement of utility: 1,2,3, or unit based measurement is ordinal and 1st phase, 2nd phase, 3dr phase is cardinal.
  • 2. Forms of Utility: i) Form utility: change basic structure of product (wood) ii) Time utility: having a product available when we want iii) Place utility: product is ready accessible to customer iv) Possession utility: transfer the ownership v) Information utility: when information create value vi) Image utility: when image create value Marginalism: The revolution of marginal concept in the thought of economics. Individual units, price and production are controlled through this concept. Law of Marginal Diminishing Utility: The additional benefit which a person derives from a given increase of this stock of anything diminishes with the growth of the stock that he already has. (Herman Heinrich Gossen).
  • 3. Utility Schedule Utility Total utility Average utility Marginal utility 1. 20 20 20 2. 38 18 18 3. 53 17.7 15 4. 64 11.5 11 5. 70 14 06 6. 70 11.7 00 7. 62 8.8 - 08 8. 46 5.75 - 18 i) Determination of price: Lower MU indicate high price ii) Profit level: MU = 0, profit will be higher iii) Production: higher total MU indicate highest production
  • 4. quantity A B C DO M D P Q R S X Y 50 40 30 20 p r i c e Utility Curve Y O X U T 1 2 3 4 5 A B C E Total UtilityMarginal Utility
  • 5. Marginal Utility of Money Does the law of DMU apply to money? There can be a limit to the purchase of commodity, but there is no such limit to the acquiring the money. A rich man attaches much less importance to each unit of money than poor. There is a difference between a poor spending 100 taka and a rich man spending 100 taka. Marginal Utility and Price Marginal utility and price are inter-related. The consumer stops where the price and the MU are equal. Price are not determinant of utility. If the price changes MU will changes too. They move together. Marginal Utility and Supply MU is a function of supply, it varies with supply. In case of free good, where the supply is unlimited, the MU is zero. The greater the supply the less the MU.
  • 6. Marginal Utility and Related Goods a) Substitute goods: are capable to satisfy the same want; tee and coffee or rail and road transport. The MU of any such goods decreases as the quantity of substitute goods with the consumer increase. b) Complementary goods: are such goods which are wanted together for the satisfaction for a want; paper, pen and ink for writing. MU increases as the quantities of the complementary goods with consumer increase. Applications of DMU Analysis i) Taxation: determination of individual tax fixation; richer a person the higher is the rate of tax. ii) Price determination: the law explains why, with increase its supply, the value of commodity must fail. iii) Household expenditure: we stop further purchases at a point where marginal utility equals.
  • 7. Applications of DMU Analysis iv) Downward demand curve: it is this law which tells us why demand curve slope downwards. v) Value-in-use and value-in exchange: air has grate utility but little value-in-exchange because it has no MU. vi) Socialism: socialists take stand on this law when they are advocate re-distribution of wealth in favor of poor. vii) Basis of micro economic: some very important laws of economics are based on DMU such as demand and its elasticity, consumers surplus, law of substitution. Paradox of Value i) Rules: a) Higher utility = higher price Water has the higher utility; so its price should be high. b) Lower utility = lower price Diamond has the lower utility; so its price should be low.
  • 8. ii) Paradox: the opposite of the rules a) Higher utility = low price: water has the higher utility but the price of water is very low. b) Lower utility = higher price: diamond has the lower utility but the price of diamond is very high. iii) Analysis: the criticism of paradox value: a) Available supply: create low utility = low price like water. Water has the high use vale but exchange value is low. b) Limited supply: high utility = high price like diamond Diamond has low use vale but exchange value is very high. Limitations i) Suitable unites: units should be reasonable. ii) Suitable time: time duration should be appropriate iii) Consumer tests: hobby, music, money, literature iv) Normal: applicable for normal situation and people v) Constant income: if income is fluctuating
  • 9. Limitations vi) Limited stock: possibility of out of market vii) Other possessing: ornaments, dress, materials viii) Fashion: goes down, utility goes down ix) Useless products: has no utility (Giffen goods) Law of Equi- Marginal Utility: i) Wants are unlimited: a) Competitive want: possession or fashion utility b) Less want: low priced product has less want c) Urgent want: medicine focuses urgent want ii) Money allocation: how the consumer would allocated his money income among various goods. iii) Satisfaction: distribute his income in such a way that the utility derived from the last taka spend on each good is equal.
  • 10. Schedule of Equi- Marginal Utility Taka MU of Tea MU of Cigarette 1. 10 08 2. 09 07 3. 07 06 4. 05 04 5. 03 02 TU = 34 TU = 27 Combination: Tea & Coffee Total 1+4 10+08+07+06+04 = 35 2+3 10+09+08+07+06 = 40 3+2 10+09+07+08+07 = 41 4+1 10+09+07+05+08 = 39
  • 11. Limitations: i) Calculation: calculation is difficult ii) Big expenditure: only applicable for big budget iii) Ignorance of consumer: dont know about substitute iv) Irrational consumption: slaves of custom or fashion v) Free goods: when it is unlimited vi) Assumption: depend on some questionable assumption Practical Uses of Equi-marginal Utility: i) It applies to choice of consumption ii) It applies to production iii) It applies to exchange iv) It applies to distribution v) It applies to price determination vi) It applies to public finance