Law of Diminishing Marginal Utility:
Definition and Statement of the Law:
The law of diminishing marginal utility
describes a familiar and fundamental tendency of human behavior. The law of
diminishing marginal utility states that:
“As a consumer consumes more and
more units of a specific commodity, the utility from the successive units goes
on diminishing”.
Mr. H. Gossen, a German economist, was
first to explain this law in 1854. Alfred Marshal later on restated this law in
the following words:
“The additional benefit which a person derives from an
increase of his stock of a thing diminishes with every increase in the stock
that already has”.
Law is Based Upon Three Facts:
The law of diminishing marginal utility is based
upon three facts. First, total wants of a man are unlimited but each
single want can be satisfied. As a man gets more and more units of a commodity,
the desire of his for that good goes on falling. A point is reached when the
consumer no longer wants any more units of that good. Secondly, different
goods are not perfect substitutes for each other in the satisfaction of various
particular wants. As such the marginal utility will decline as the consumer gets
additional units of a specific good. Thirdly, the marginal utility of
money is constant given the consumer’s wealth.
The basis of this law is a fundamental
feature of wants. It states that when people go to the market for the purchase
of commodities, they do not attach equal importance to all the commodities which
they buy. In case of some of commodities, they are willing to pay more and in
some less. There are two main reasons for this difference in demand. (1) the
linking of the consumer for the commodity and (2) the quantity of the commodity
which the consumer has with himself. The more one has of a thing, the less he
wants the additional units of it. In other words, the marginal utility of a
commodity diminishing as the consumer gets larger quantities of it. This, in
brief, is the axiom of law of diminishing marginal utility.
Explanation and Example of Law of Diminishing
Marginal Utility:
This law can be explained by taking a
very simple example. Suppose, a man is very thirsty. He goes to the market and
buys one glass of sweet water. The glass of water gives him immense pleasure or
we say the first glass of water has great utility for him. If he takes second
glass of water after that, the utility will be less than that of the first one.
It is because the edge of his thirst has been blunted to a great extent. If he
drinks third glass of water, the utility of the third glass will be less than
that of second and so on.
The utility goes on diminishing with the consumption
of every successive glass water till it drops down to zero. This is the point of
satiety. It is the position of consumer’s equilibrium or maximum satisfaction.
If the consumer is forced further to take a glass of water, it leads to
disutility causing total utility to decline. The marginal utility will become
negative. A rational consumer will stop taking water at the point at which
marginal utility becomes negative even if the good is free. In short, the more
we have of a thing, ceteris paribus, the less we want still more of that, or to
be more precise.
“In given span of time, the more of a
specific product a consumer obtains, the less anxious he is to get more units of
that product” or we can say that as more units of a good are consumed,
additional units will provide less additional satisfaction than previous units.
The following table and graph will make the law of diminishing marginal utility
more clear.
Schedule of Law
of Diminishing Marginal Utility:
|
Units |
Total Utility |
Marginal Utility |
|
1st
glass |
20 |
20 |
| 2nd
glass |
32 |
12 |
| 3rd
glass |
40 |
8 |
| 4th
glass |
42 |
2 |
| 5th
glass |
42 |
0 |
| 6th
glass |
39 |
-3 |
From the above table, it is clear that in
a given span of time, the first glass of water to a thirsty man gives 20 units
of utility. When he takes second glass of water, the marginal utility goes on
down to 12 units; When he consumes fifth glass of water, the marginal utility
drops down to zero and if the consumption of water is forced further from this
point, the utility changes into disutility (-3).
Here it may be noted that the utility of
then successive units consumed diminishes not because they are not of inferior
in quality than that of others. We assume that all the units of a commodity
consumed are exactly alike. The utility of the successive units falls simply
because they happen to be consumed afterwards.
Curve/Diagram of
Law of Diminishing Marginal Utility:
The law of diminishing marginal utility can also
be represented by a diagram.
In the figure (2.2), along OX we measure
units of a commodity consumed and along OY is shown the marginal utility derived
from them. The marginal utility of the first glass of water is called initial
utility. It is equal to 20 units. The MU of the 5th
glass of water is zero. It is called satiety point. The MU of the 6th
glass of water is negative (-3). The MU curve here lies below the OX axis. The
utility curve MM/ falls left from left down to the right showing that the
marginal utility of the success units of glasses of water is falling.
Assumptions of Law of Diminishing Marginal Utility:
The law of diminishing marginal utility is true
under certain assumptions. These assumptions are as under:
(i)
Rationality: In the
cardinal utility analysis, it is assumed that the consumer is rational. He
aims at maximization of utility subject to availability of his income.
(ii)
Constant marginal utility of money:
It is assumed in the theory that the marginal utility of money based for
purchasing goods remains constant. If the marginal utility of money changes
with the increase or decrease in income, it then cannot yield correct
measurement of the marginal utility of the good.
(iii)
Diminishing marginal utility:
Another important assumption of utility analysis is that the utility gained
from the successive units of a commodity diminishes in a given time period.
(iv)
Utility is additive: In
the early versions of the theory of consumer behavior, it was assumed that
the utilities of different commodities are independent. The total utility of
each commodity is additive.
U = U1
(X1) + U2
(X2)
+ U3 (X3)……….
Un (Xn)
(v)
Consumption to be continuous:
It is assumed in this law that the consumption of a commodity should be
continuous. If there is interval between the consumption of the same units
of the commodity, the law may not hold good. For instance, if you take one
glass of water in the morning and the 2nd
at noon, the marginal utility of the 2nd
glass of water may increase.
(vi)
Suitable quantity: It is
also assumed that the commodity consumed is taken in suitable and reasonable
units. If the units are too small, then the marginal utility instead of
falling may increase up to a few units.
(vii)
Character of the consumer does not change:
The law holds true if there is no change in the character of the consumer.
For example, if a consumer develops a taste for wine, the additional units
of wine may increase the marginal utility to a drunkard.
(viii) No
change to fashion: Customs
and tastes: If there is a sudden change in fashion or customs or taste of a
consumer, it can than make the law inoperative.
(ix) No
change in the price of the commodity:
there should be any change in the
price of that commodity as more units are consumed.
Limitations/Exceptions of Law of Diminishing
Marginal Utility:
There are some exceptions or limitations
to the law of diminishing utility.
(i) Case
of intoxicants:
Consumption of liquor defies the low for a short period. The more a person
drinks, the more likes it. However, this is truer only initially. A stage
comes when a drunkard too starts taking less and less liquor and eventually
stops it.
(ii) Rare
collection: If there are
only two diamonds in the world, the possession of 2nd
diamond will push up the marginal utility.
(iii)
Application to money: The
law equally holds good for money. It is true that more money the man has,
the greedier he is to get additional units of it. However, the truth is that
the marginal utility of money declines with richness but never falls to
zero.
Summing up, we can say that the
law of diminishing utility, like other laws of Economics, is simply a statement
of tendency. It holds good provided other factors remain constant.
Practical Importance of Law of Diminishing Marginal
Utility:
The law of diminishing utility has great
practical importance in economics. The law of demand, the theory of consumer’s
surplus, and the equilibrium in the distribution of expenditure are derived from
the law of diminishing marginal utility.
(i) Basis
of the law of demand: The law
of marginal diminishing utility and the
law of demand
are very closely related to each other. In fact they law of diminishing marginal
utility, the more we have of a thing, and the less we want additional increment
of it. In other words, we can say that as a person gets more and more of a
particular commodity, the marginal utility of the successive units begins to
diminish. So every consumer while buying a particular commodity compares the
marginal utility of the commodity and the price of the commodity which he has to
pay.
If the
marginal utility of the commodity is higher than that of price, he purchases
that commodity. As he buys more and more, the marginal utility of the successive
units begins to diminish. Then he pays fewer amounts for the successive units.
He tries to equate at every step the marginal utility and the price of the
commodity, he must lower its price so that the consumers are induced to buy
large quantities and this is what is explained in the law of demand. From this,
we conclude that the law of demand and the law of diminishing are very closely
inter-related.
(ii)
Consumer’s surplus concept:
The
theory of consumer’s surplus is also based on the law of diminishing
marginal utility. A consumer while purchasing the commodity compares the utility
of the commodity with that of the price which he has to pay. In most of the
cases, he is willing to pay more than what he actually pays. The excess of the
price which he would be willing to pay rather than to go without the thing over
that which he actually does pay is the economic measure of this surplus
satisfaction. It is in fact difference between the total utility and the
actually money spent.
(iii)
Importance to the consumer: A
consumer in order to get the maximum satisfaction from his relatively scare
resources distributes his income on commodities and services in such a way that
the marginal utility from all the uses are the same. Here again the concept of
marginal utility helps the consumer in arranging his scale of preference for the
commodities and services.
(iv)
Importance to finance minister:
Some times it is pointed out that the law of diminishing marginal utility does
not apply on money. As a person collects money, the desires to accumulate more
money increases. This view is superficial. It is true that wealth is acquired
for the procurement of goods and services and man is always anxious in getting
more and more of money. But what about the utility of money to him? Is it not a
fact that as a person gets more and more wealth, its utility progressively
decreases, though it does not reach to zero?
For example,
a person who earns $90,000 per month attaches less importance to $10. But a man
who gets $1000 per month, the value of $10 to him is very high. A finance
minister knowing this fact that the utility of money to a rich man is high and
to poor man low bases the system of taxation in such a way that the rich persons
are taxed at a progressive rate. The system of modern taxation is therefore,
based on the law of diminishing marginal utility.
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