Chapter Three Consumer Utility Analysis

utility

• Definition of utility: the satisfaction consumers feel when they consume goods or services
  • Utility is the subjective evaluation of consumers on goods and services, and it is a subjective psychological state
  • Effectiveness varies from person to person, from time to time, and from place to place
• Basic Hypothesis of Utility Theory
  • Complete Information: Consumers already have all the information relevant to their consumption decisions, they know the range of all available goods and services, and the utility they can provide. The prices of various commodities are also known to consumers, and the consumers' income during this period is known
  • Order of preference: Consumers have the ability to sort all commodities into groups, and when faced with two or more commodity groups, consumers can decide to rank their preferences

Cardinal Utility vs. Ordinal Utility

cardinal utility theory

Cardinal utility analysis method: marginal utility analysis method, which considers that the utility of a commodity or service can be measured by base numbers (1, 2, 3), can be summed up, and the unit is Util

• Cardinal Utility Theory and Marginal Utility Analysis

  • Total utility TU: the sum of utility obtained by consumers from a certain amount of frequent consumption within a certain period of time. Within a certain range, the total utility increases with the increase in the number of commodities consumed by consumers
  • Marginal utility MU: The increment of total utility obtained by consumers when they increase or decrease the consumption of a unit of goods within a certain period of time. The calculation formula is as follows:
    

• MU and TU analysis

  • MU>0, the total utility curve is rising, and the total utility increases with the increase of consumption, but the range of increase decreases. The more consumers consume a certain commodity or service, the greater the total utility or total satisfaction
  • MU=0, the total utility curve reaches its highest point
  • MU<0, the total utility curve shows a downward trend, and the total utility decreases with the increase of consumption

The law of diminishing marginal utility: In general, as the consumption of a commodity or service increases, the incremental utility it brings to consumers decreases, that is, the marginal utility that consumers get will eventually decrease

• Consumer Equilibrium: How a single consumer allocates limited monetary income to maximize utility for buyers of various goods
  

ordinal utility theory

Ordinal utility theory: the absolute magnitude of utility cannot be measured, and cannot be expressed in a unified unit, and can only be listed in the order of utility according to the degree of personal preference of consumers

• Indifference Curve: Various combinations of different quantities of two goods with the same consumer preference
  

• indifference curve properties
  

  • Sloping down to the right, convex toward the origin
  • Any two indifference curves cannot intersect
  • Indifference curves farther from the origin represent higher levels of utility

• Marginal rate of substitution: Under the premise of maintaining the same utility level, as the consumption quantity of one commodity increases continuously, the consumption quantity of another commodity that consumers need to give up to obtain each unit of this commodity is decreasing; The diminishing marginal rate of substitution is a consequence of the law of diminishing marginal utility
  

• The Budget Line: The Income Constraints Faced by Consumers
  

• Consumer equilibrium: the budget line is tangent to the indifference curve
  

Derivation of individual demand curve

• It is generally assumed that a consumer with a given income has a constant marginal utility of money over a given period
• The demand price is equal to the ratio of the marginal utility of the commodity to the marginal utility of the currency, the demand price: the price that the consumer is willing to pay to purchase a certain commodity in currency
• Three characteristics of a single consumer's demand curve: downward sloping to the right, indicating the quantity the consumer is willing to buy at different prices, and each point is the equilibrium point where the consumer's utility is maximized at a given price
• Marginal Utility Curve: A change in the quantity of a good purchased causes a change in marginal utility
• Demand Curve: The change in the quantity of a good purchased due to a change in the price of the good

Consumer Surplus

Consumer Surplus: The difference between the price a consumer is willing to pay for a good and the price he actually pays for the good

• Consumer surplus is not an increase in real income, but a feeling in the heart
• The consumer surplus of daily necessities is large, because consumers have a high evaluation of the utility of such goods and are willing to pay a high price, but the market price of such goods is not high