Consumer Theory

 Consumer Theory: 

 Consumer Theory is the study of how consumers make spending decisions based on their individual preferences and budgets. It is a branch of microeconomics. 

 Utility: 

In economics, a user is someone who acquires goods or services to meet his or her needs and uses them to satisfy desires. In other words, a user is an agent who acts on the platform of economics. In this sense, economics can also be interpreted as a science of use. In this field, many principles can be used to increase the quality of users’ choices. One concept that is essential in economics is utility—the measure of usefulness in all decisions. Understanding how to maximize utility in your choices is crucial when making any economic decisions.

 The degree of happiness or satisfaction that a consumer derives from the consumption of a product or service is called utility. This usage became widespread in the 19th century.  It is a subjective approach as it varies by time, place, and person. This is because one may be highly satisfied while the other is less satisfied, even if they consume the same amount of product. Practicality and usefulness are no longer the same. The utility is closely related to human well-being, but the utility is limited only to meeting human needs. 

Utility approaches

 Cardinal Approach 

 Ordinal  approach 

 The Cardinal Approach states that the usefulness of goods and services can be expressed in numbers. Also called marginal utility analysis. The unit of measure for utility is "Utils". It was developed by neoclassical economists. I like coffee 10 times more than tea.

The ordinal approach states that the utility derived from a product or service can be expressed as an order or rank, such as 1st, 2nd, or 3rd place. For example, I like coffee more than tea.

Utility analysis assumptions: 

 Consumers are reasonable. 

 A basic measure of utility. 

 The marginal utility of money remains constant. 

 The law of diminishing marginal utility applies. 

 Utilities are independent.

Total Utility (TU): The total satisfaction a consumer receives from consuming various units of a product over some time is called total utility. In other words, it refers to the total amount of marginal utility that results from consuming different units of the same commodity. 

Mathematically, TU = MU1 + MU2 + …….. + Mn 

 = 

 TU = F (Q) where TU = total utility of commodities F = basic relation Q = quantity of commodities 

 Average Utility (AU): The degree of satisfaction a consumer receives for each unit of goods consumed is called average utility. In other words, the average utility is the utility per unit. 

Mathematically, AU = 𝐓𝐔/Q where AU = average resource utility  TU = total resource utility  Q = amount of resource.

Marginal Utility (MU): The additional satisfaction gained by a consumer by consuming additional units of goods is known as marginal utility. In other words, the change in total utility caused by changes in the number of goods consumed is called marginal utility. Mathematically 

 MU = 𝜟𝑻𝑼/𝚫𝑸 

or  MU = TUn  - TUn-1 

 MU = Marginal Utility of Goods 

, ΔTU = Change in Total Utility of Goods, ΔQ = Change in Consumption of Goods

Law of diminishing marginal utility: 

 Australian economist H. Gossen first described this law in 1854. Alfred Marshall later explained this law in the following words:  The law of diminishing marginal utility states:  “The utility of successive units continues to decline as consumers consume more  of a particular commodity.”

Assuming the marginal utility 

•  Consumers should be rational.  Rational means logical, clever, thoughtful, etc. A savvy consumer wants to maximize satisfaction through financial income. 
• The profit arising from the consumption of goods is measurable. The measurement of units is known in economics as "utility". Since utility is a fundamental phenomenon, consumers can add up and compare utility by consuming different units. 
• Constant marginal utility of money. As a measure of utility, the marginal utility of money within consumption remains constant.
• No temporary interruption of consumption and similar units of goods. 
• No change in consumer tastes and preferences.

We can understand with the help example given below.

Importance of diminishing marginal utility

The concept of diminishing marginal utility is crucial to the field of economics and finance, where it helps determine the cause and extent of supply-side shocks.

Tax is a useful tool for the government. A progressive tax is one where the government levies more taxes on the wealthy and lower taxes on the poor. The marginal utility of wealth is high for the impoverished and low for the wealthy. When there is a high demand, the cost of the utility is also high, hence the state levies a higher tax.

The law of demand is based on the law of diminishing marginal utility. This law strongly helps the provision of variety for consumers. ( Imagine receiving the same meal everywhere you go. What are you going to say?)

Limitation of diminishing marginal utility

• When income, taste, and habit is changed also at that time consumer can also get further satisfaction from the fresh unit.
• If there's a veritably long period interval between the consumption of different units of a commodity at that time consumers may get further satisfaction from fresh units.
• In the case of the rare collection, this law isn't applicable because if a person has a hobby of collecting rare particulars like old stamps, coins, etc. Consumers also get further satisfaction from the collection of the further commodity.
• In the case of abnormal men this law isn't applicable for illustration medicine abusers, drunkers, etc. get further satisfaction from the consumption of the last unit.
•  Utility is to be measured in rank i.e. high, low, satisfaction but can’t be expressed in number
• This law doesn't apply to public goods.
• The value of money is inversely proportional to the amount of money, but this law states that the marginal utility of money is constant.