Definition of Marginal Utility
Marginal utility in economics refers to the additional satisfaction or benefit that a consumer derives from consuming one more unit of a good or service. It is calculated as the change in total utility divided by the change in quantity consumed, often expressed as the difference in utility between two levels of consumption. This concept is central to understanding how individuals make choices to maximize their satisfaction given limited resources.
Key Principles of Marginal Utility
The law of diminishing marginal utility states that as a person consumes more units of a good, the marginal utility from each additional unit typically decreases. For example, the first unit provides high satisfaction, but subsequent units yield progressively less. This principle assumes rational behavior and helps explain why consumers allocate resources across different goods to equalize marginal utilities per dollar spent.
Practical Example of Marginal Utility
Consider eating slices of pizza. The first slice might provide a marginal utility of 10 units of satisfaction due to hunger. The second slice could offer 7 units, as the hunger lessens. By the fourth slice, the marginal utility might drop to 2 units, and the fifth could even be negative if it causes discomfort. This illustrates how consumers decide when to stop consuming based on declining benefits.
Importance and Applications
Marginal utility is essential for analyzing consumer behavior, demand curves, and pricing strategies. It underpins the idea that demand decreases as price rises because higher prices reduce the quantity where marginal utility equals marginal cost. In real-world applications, businesses use it to set prices that align with consumers' willingness to pay, while policymakers apply it in areas like taxation and resource allocation to promote efficient outcomes.