MCom I Semester Economics Law Diminishing Marginal Utility Study Material Notes

MCom I Semester Economics Law Diminishing Marginal Utility Study Material Notes: Explanation of Law With the Help of Example Causes for Diminishing marginal Utility Assumptions of the Law Exception to the Law of Diminishing Marginal Utility Importance of Law ( Most Important Notes for MCom Students )

MCom I Semester Managerial Economics Business Firm Study Material Notes

LAW OF DIMINISHING MARGINAL UTILITY

EXPLANATION OF LAW

Law of diminishing marginal utility is based upon the important fact that human wants are unlimited but a single want can be satisfied at a particular time. A consumer consumes more and more units of a particular commodity, intensity of his want for the commodity goes on falling. With a fall in the intensity of want, marginal utility derived from every successive unit goes on declining and after a certain point it becomes zero. At this point, he will get maximum total utility and stops consumption. If he still continues his consumption, marginal utility will be negative and total utility will start to fall. This behaviour of marginal utility is called the law of diminishing marginal utility. This law has been defined as under:

1 “The additional benefit, which a person derives from a given increase of a stock of a thing diminishes, other things being equal, with every increase in the stock that he already has.” -Marshall

2. “As a consumer increases the consumption of any one commodity, keeping constant the consumption of all other commodities, the marginal utility of the variable commodity must eventually decline.” –Boulding

Thus, it may be concluded that as and when a consumer goes on increasing the consumption of a particular commodity, marginal utility of every additional unit goes on diminishing.

EXPLANATION OF LAW WITH THE HELP OF EXAMPLE

Let us assume that an individual can consume five chapaties at a time. As he starts consumption, the first chapati will give him maximum utility. Second chapati will give him less marginal utility and it will go on declining. Fifth chapati will not provide him any marginal utility. This is point of maximum satisfaction. If he consumes sixth chapati also, his marginal utility will be negative. It can be made clear with the help of following utility schedule and curve :

CAUSES FOR DIMINISHING MARGINAL UTILITY

(1) Commodities are not Perfect Substitutes to Each Other. Commodities are not perfect substitutes to each other. Due to this reason, when a consumer goes on consuming more units of a commodity, marginal utility goes on declining.

(2) A Particular Want can be Satisfied at a Particular Time. Due to this reason, intensity of want goes on declining with every successive unit of consumption and sooner or later the consumer reaches at the point of full satisfaction, where his marginal utility is zero.

ASSUMPTIONS OF THE LAW

(1) Consumption in Suitable Quantity. It is asssumed that the commodity is consumed in suitable quantity. If the quantity is not suitable, the law will not hold good. Example : If one feels thirsty, the water offered to him should be enough to satisfy his thirst.

(2) Consumption in Suitable Time. It is also assumed that the commodity is consumed within a certain time. Example: If you take your first meal in the morning and second meal in the evening, marginal utility of second meal will not be less.

(3) All the Units must be Uniform. All the units of consumption must be uniform. If second unit is of better quality than the first one the law may not apply.

(4) Constant Character of Consumer. There should be no change in the character of consumer during the course of consumption. Example: The more wine a drunkard takes, greater is the utility in each case because of a change in character

(5) Rational Behaviour of Consumer. Law of diminishing marginal utility applies to normal persons and not to abnormal persons like lunatics, misers, saints etc.

(6) Constant Income of Consumer. If there is a change in income, the marginal utility of money changes and the law proves to be false.

(7) No Change in Fashion, Tastes and Nature of Consumer. Utility of a commodity is considerably affected by taste, preferences and nature of consumers. There should be no change in these factors.

(8) No Change in Price. There should be no change in the price of the commodity and its substitutes.

EXCEPTIONS TO THE LAW OF DIMINISHING MARGINAL UTILITY

(1) Very Small Unit of Consumption. This law does not apply, when the unit of consumption is very small. Example : If only one spoonful water is provided to a person, who is very thirsty, marginal utility of next spoon of water will be more.

(2) Money and Wealth Accumulation. This law does not apply on the accumulation of money and wealth. With every successive increase in his accumulation, he gets more satisfaction.

(3) A Drunkard. This law does not hold good on the consumption of liquor. Every additional dose of liquor will increase its marginal utilitty for the drunkard

(4) Music, Recital or Beautiful Scenic View. The law does not apply on listening to the music, recital of a song or poem or witnessing a beautiful scenery.

IMPORTANCE OF LAW

(1) A Base of the Laws of Consumption. Law of diminishing marginal utility is the basic law of economics. Law of demand, law of equi-marginal utility, consumer’s surplu’s etc., are based upon this law.

 (2) A Base of Diversity in Production. Law of diminishing marginal utility is the base of diversity in production. In the absence of this law, consumers would have been consuming a single commodity.

(3) A Base of Distinction Between Value in Use and Value in Exchange. This law solves the riddle of Adam Smith that though water and air are so essential and useful to life, still they have no value in exchange. Modern economists solved this problem with the help of diminishing marginal utility.

(4) A Base of Taxation Policy. Progressive taxation based upon the law of diminishing marginal utility. It follows that the marginal utility of money to a rich man will be less than that to a poor man.

Conclusion. Law of diminishing marginal utility is a fundamental law of economics. In the words of Prof. Taussig, “The tendency of diminishing marginal utility shows itself so widely and with so few exceptions that there is no significant inaccuracy in speaking of it as universal