CBSE Class 11: Economics- Law of Diminishing Marginal Utility

Marginalism eventually found a foothold by way of the work of three economists, Jevons in England, Menger in Austria, and Walras in Switzerland. Anne Robert Jacques Turgot, in Réflexions sur la formation et la distribution de richesse (1769), held that value derived from the general utility of the class to which a good belonged, from comparison of present and future wants, and from anticipated difficulties in procurement.

If 50 people are employed, at some point, increasing the number of employees by two percent (from 50 to 51 employees) would increase output by two percent and this is called constant returns. It states that the total utility that you get from a collection of goods is a simple sum total of the separate utilities of each good. The theory further states that money is the measuring rod of utility.

Marginal Utility Analysis

This explains the bowed-out shape of the production possibilities frontier. Second, the total utility of a greater supply of goods is always greater than the utility of a smaller supply of goods — as the former allows the satisfaction of more ends than the latter. Human action implies employing means to the fulfillment of ends, and the axiom of human action implies that means are scarce. For if they were not scarce, means would not serve as objects of human action; and if means were not scarce, there would be no action — and that is unthinkable. To show this, we must remind ourselves of the obvious and less-obvious implications of the axiom of human action. The axiom of human action cannot be denied without running into an insoluble contradiction.

1. All one can say is that utility is higher or lower from the viewpoint of an individual.
2. In this article, we will look at the assumptions, laws, and limitations under marginal utility analysis.
3. The Marginal Utility gained from the xth unit of consumption is equal to the difference between the total utility gained from x units of consumption and the total utility gained from x–1 units of consumption.
4. Such faulty economics thereby support — intentionally or unintentionally — destructive policies.
5. If we eat another apple, the marginal utility curve falls below the X-axis, indicating ‘disutility’.
6. This concept of a budget model is assessed against how much utility consumers gain from additional purchases.

Link with output elasticity

Have done a great deal of research surrounding a so-called concave probability utility which shows how such effects can be modeled with constant absolute risk aversion. However, it is also possible to show that the constant absolute risk aversion utility which coincides with the LARA risk function is a good estimate of the types of utility necessary to justify MU maximization. Of course, some people do like to take risks, and we have already explained how the fact that some people may like extreme sports, etc. does not weaken or qualify the strong results of the LARA utility function – human preferences remain generally MU decreasing.

Thus, the marginal utility may decline into negative utility, because it may become completely undesirable to consume another unit of any product.. This means that the most value is often found in the initial unit of consumption of a product, with subsequent units of consumption containing decreasingly less value. Consumers use the rule of diminishing marginal utility to their advantage by purchasing a wide variety of products. These two dimensions of the law of diminishing marginal utility follow directly from the axiom of human action; they can be logically deduced from it, and they do not in any way depend on psychology or any behavioral assumption.

1. Even GDP per capita will reach a point where it has a diminishing rate of return on HDI.20 Just think, in a low income family, an average increase of income will likely make a huge impact on the wellbeing of the family.
2. Adam Hayes, Ph.D., CFA, is a financial writer with 15+ years Wall Street experience as a derivatives trader.
3. The idea of diminishing returns has ties to some of the world’s earliest economists, including Jacques Turgot, Johann Heinrich von Thünen, Thomas Robert Malthus, David Ricardo, and James Anderson.
4. As a result, the utility of apples ingested decreases with consumption.
5. Violations of individual property rights thus raise peoples’ time preference, increasing consumption at the expense of savings and investment, thereby reducing (or even reverting) the pace of capital accumulation.

The Impact of Economic Policies on H Kinh Communities in Vietnam

The law of diminishing marginal returns is a theory in economics that predicts that after some optimal level of capacity is reached, adding an additional factor of production will actually result in smaller increases in output. The law of diminishing marginal utility states the utility function is upward sloping and concave. The neoclassical microeconomic theory assumes that all commodities are infinitely divisible.

Hence, you can say that you derive a utility of 10 units from consuming 1 unit of commodity A and 5 from consuming 1 unit of commodity B. This can help you compare different commodities and analyze which commodity offers better utility or satisfaction. In his 1881 work Mathematical Psychics,71 Francis Ysidro Edgeworth presented the indifference curve, deriving its properties from marginalist theory which assumed utility to be a differentiable function of quantified goods and services. Later work attempted to generalize to the indifference curve formulations of utility and marginal utility in avoiding unobservable measures of utility. However, the broader implications of this hypothesis were not explored, and the work faded into obscurity.

Only the circumstances of some people vary under law of diminishing marginal utility given by extraordinary conditions. Given the importance of the law of diminishing marginal utility for economic theory and policy, it is important to keep advertising that the law of diminishing marginal utility is irrefutably true — because it follows from the axiom of human action. For ignoring this truth leads to fallacious and erroneous conclusions, and eventually to false economic theory and economic policies. The law of diminishing marginal utility is important in economics and business because it predicts consumer behavior. It can be used by businesses to find the balance in supply and production. It can inform a business’ marketing and sales strategies, as well.

However, this rapid development has meant that certain sectors of the population are left behind, particularly those in remote and ethnic minority communities. In recent years, in response to calls for greater equity, the government has increasingly formulated economic policies that purport to benefit all sectors of the population. This dissertation evaluates the effectiveness of these policies at the commu… What is more, utility is an ordinal concept, meaning that utility cannot be measured in terms of higher or lower utility from the viewpoint of an individual; and changes in utility among different people cannot be measured. All one can say is that utility is higher or lower from the viewpoint of an individual. Utility is the degree of satisfaction or pleasure a consumer gets from an economic act.

The law of diminishing marginal utility, as developed by Carl Menger (1840–1921), is axiomatic in nature; that is, it is irrefutably true. In mainstream economics, however, this fundamental economic law is typically interpreted as resting on psychology, namely the law of satiation of wants. The law of diminishing returns is related to the concept of diminishing marginal utility. The law of diminishing marginal utility means that as you use or consume more of something, you will get less satisfaction from each additional unit of that thing. Marginal utility is the enjoyment a consumer gets from each additional unit of consumption. If you buy a bottle of water and then a second one, the utility gained from the second bottle of water is the marginal utility.

According to Mises, economic theory is not concerned with psychology, but with the implications of the axiom of human action. Because of the diminishing rate, the marginal utility of the second apple is less than the first apple. As a result, the utility of apples ingested decreases with consumption. If we eat another apple, the marginal utility curve falls below the X-axis, indicating ‘disutility’. A consumer’s demand for a commodity is typically determined by the amount of utility (or satisfaction) he derives from the commodity in question.