5 1: The Demand Curve and Utility

More specifically, utility is the total satisfaction or benefit derived from consuming a good or service. Economic theories based on rational choice usually assume that consumers will strive to maximize their utility. Our preferences allow us to make comparisons between different consumption bundles and choose the preferred bundles. We could, for example, determine the rank ordering of a whole set of bundles based on our preferences. A utility function is a mathematical function that ranks bundles of consumption goods by assigning a number to each, where larger numbers indicate preferred bundles.

Types of Production Functions: Cobb Douglas, Leontief, CES

For instance, if a consumer chooses a cup of coffee over tea, we infer that, for this individual, the coffee has greater utility. We can explain his decision using the model of utility-maximizing behavior; Mr. Zane’s out-of-pocket commuting budget constraint is about $2. By reallocating his $2 commuting budget, the gain in utility of having more time at home exceeds the loss in utility from not sipping premium coffee on the way to work. Notice how marginal utility lessens as Mark consumes more pizza slices.

What is Revenue? Types: Total, Average, Marginal

The level of satisfaction derived by a consumer after consuming a good or service is called utility. Let's say a consumer is shopping for a new car and has narrowed the choice down to two cars. The cars are nearly identical, except the second car has enhanced safety features. These are all appropriate ways to capture the intuition behind the principle of diminishing marginal utility. Generally these exceptions occur when what is being consumed is a component of a larger whole.

Can Utility be Measured? Cardinal vs. Ordinal Approaches of Utility

Panel (a) of Figure 7.1 shows the total utility Henry Higgins obtains from attending movies. In drawing his total utility curve, we are imagining that he can measure his total utility. The total utility curve shows that when Mr. Higgins attends no movies during a month, his total utility from attending movies is zero. As he increases the number of movies he sees, his total utility rises. He achieves the maximum level of utility possible, 115, by seeing 6 types of utility in economics movies per month. Utility is measured in units called utils—the Spanish word for useful— but calculating the benefit or satisfaction that consumers receive is abstract and difficult to pinpoint.

1. There is no scale we can use to determine the quantity of utility a peach generates.
2. Man does not have all the arable land, petroleum, or platinum that he would like; their use must be rationed.
3. Using the data from the table above, we can plot the total utility of Mark's pizza experience on a graph.
4. Where the latexMIN/latex function simply assigns the smaller of the two numbers as the function’s value.
5. Since 1996, an experiment in road pricing has caused him and others to change their ways—and to raise their total utility.

So indifference curves follow directly from utility functions and are a useful way to represent utility functions in a two-dimensional graph. Therefore, marginal utility, MU of a commodity X, is the change in the total utility, ∆ TU, attained from the consumption of an additional unit of commodity X. Understanding the logic behind consumer choices and their level of satisfaction is not only important to economists but to companies, as well. Company executives can use utility to track how consumers view their products.

If the utility of a third slice is two utils, the MU of eating that third slice is two utils. Utility in economics was first coined by the noted 18th-century Swiss mathematician Daniel Bernoulli. Since then, economic theory has progressed, leading to various types of economic utility. Businesses can take many steps to improve utility for their customers. They include research and marketing activities such as focus groups and testing. Companies can consider increasing the speed with which they conduct their production process, resulting in the ease of bringing products and services to market.

For instance, a leftover hamburger may be considered wasteful food, and in order to prevent waste, it is eaten. This more ethical or qualitative evaluation of "utility" is difficult to capture in mathematical models or formulae. Utility is a loose and sometimes controversial topic in microeconomics.