ICS FA ICom Notes Class XI Principles of Economics Marginal Utility and Price

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Definition of Marginal Utility

When we pay a certain price for a commodity it can be taken for granted that we think that the satisfaction is at least equal to the price paid. Hence we say they the price paid measures the marginal utility to that marginal utility indicates price. They move together. If the price goes up, the marginal utility also goes up, because now we buy less and vice versa. Marginal utility does not determine or governs price. It simply indicates it.

Law for Equi-Marginal Utility

The law of Equi marginal utility is also called law of substitution, law of maximum satisfaction or law of indifference.

Statement and Explanation

We all know that our wants are competitive. We have therefore to make a choice between the more urgent and the less urgent wants. When we are more or little less of a commodity it seems that we are trying to balance the marginal utility of the commodity and the money. Every person wants to make the best of his or her resources. This is necessary because resources are scarce in relation to wants. Every consumer aims at getting the maximum possible satisfaction for which he substitutes the more useful for the less useful things. When he does so, the marginal utilities in each direction will be equalized. It is only when marginal utilities have been equalized, through the process of substitution, that we get the maximum satisfaction.

Example

Suppose our hypothetical consumer has a given amount of income to spend and wants to maximize his satisfaction. We further assume that the commodities are subject to law of diminishing utility. He feels that he will aim greater satisfaction if he spends on any other good. Thus he goes on substituting one thing for another until the whole of the money is exhausted. When this is done he has got equi marginal utility. He cannot now increase his total utility by spending more on one thing and less on the other.

The law can be easily understood with the help of a hypothetical example. It is assumed that our consumer has only rupees 8 with which he purchases two comities say apple and bananas.