Utility refers to the amount of satisfaction a person gets from consumption of a certain item.and marginal utility refers to the addition made to total utility, we get after consuming one more unit.An individual's wants are unlimited in number yet each individual's want is satiable. Because of this, the more we have a commodity, the less we want to have more of it.
This law state that as the amount consumed of a commodity increases, the utility derived by the consumer from the additional units, i.e marginal utility goes on decreasing.
The law of diminishing marginal utility explains the downward sloping demand curve
Definition
According to Marshall, “The additional benefit a person derives from a given increase of his stock of a thing diminishes with every increase in the stock that he already has”
Assumptions:
All the units of a commodity must be same in all respects
The unit of the good must be standard
There should be no change in taste during the process of consumption
There must be continuity in consumption
There should be no change in the price of the substitute goods
Explanation:
As more and more quantity of a commodity is consumed, the intensity if desire decreases and also the utility derived from the additional unit.
Suppose a person eats Bread. and 1st unit of bread gives him maximum satisfaction. When he will ead 2nd bread his total satisfaction would increase. But the utility added by 2nd bread(MU) is less then the 1st bread. His Total utility and marginal utility can be put in the form of a following schedule.
Plotting the above data on a graph gives
- Here, from the MU curve we can see that MU is declinig as consumer consumes more of the commodity.
- When TU is maximum, MU is Zero.
- After that, TU starts declining and MU becomes negative.
Exceptions:
There are various exceptions of the law of diminishing marginal utility. Major limitations are as follows:
1. Homogeneous Commodity
The law of diminishing marginal utility assumes that there should be single commodity with homogeneous units. All units of the commodity should be of the same same size and quality. If the units are not identical, this law will not be applied.
2. No change in tastes, habits, customs, fashion and income of the consumer
There should not be changed in tastes, habits, customs, fashion and income of the consumer. If the income of a consumer increases, the marginal utility of a certain goods will increase. In such case, increase in consumption may yield greater satisfaction or utility.
3. Continuity
There should be continuity in the consumption of the commodity; otherwise the law of diminishing marginal utility will not apply. Units of the commodity should be consumed in succession at one particular time. If the interval between the various units of consumption is too long, marginal utility may become higher.
4. Suitable size of units
Units of the commodity should be of a suitable size. It must not be too small. For example, giving water to a thirsty man by spoon will increase the utility of the successive spoon of water.
5. Ordinary commodities
Commodities should be of an ordinary types. If the commodities are likes diamonds and jewels or hobby commodities like stamps, coins or paintings, the law of diminishing marginal utility does not apply.
6. Marginal utility of money not constant
Our intensity for money increases as we have more of it. No doubt the marginal utility of money does not become zero, but it definitely falls as a person gets more and more money.The marginal utility of money for a rich is less than a poor man.
7. Rational consumer
The consumer should be an economic man, who acts rationally. This law does not apply to persons of special nature such as drunkard, druggist etc. Marginal utility of wine for drunkard increases with every peg of drinks.
Importance:
1. Basis Of Economic Laws
Several very important laws of economics are based on the law of diminishing marginal utility e.g. the law of demand, consumer's surplus, elasticity of demand, the law of substitution, etc.
2. Basis Of Theory Of Taxation
The law of diminishing marginal utility is applicable in the sphere of taxation. As a person's income increases, the rate of tax rises because the marginal utility of money to him falls with the rise in his income. The principle of progressive taxation is based on this law.
3. Basis Of Price Determination
This law also applies to the determination of market price. The price of a commodity falls when its supply increases. It is because with the increase in the stock of a commodity, its marginal utility decreases..
4. Basis For Consumer Expenditure
The law of diminishing marginal utility regulates our daily expenditure. We know that as we go on buying more of a commodity, its marginal utility falls.Having only a limited amount of money at our disposal, we cannot waste it unnecessarily on a large quantity of a particular commodity. Therefore, we stop further purchases at a point where marginal utility equals price.
5. Basis Of Distribution Of Wealth
According to socialists, the distribution of wealth and national income should be done on the basis of this law. They argued that excessive wealth in the hand of rich is not so useful from the social point of view. The excess wealth should be transferred to the poor. In the hand of poor, it will satisfy needs that are more urgent. It is due to diminishing marginal utility that beyond a certain point, wealth will have less utility of a rich man. If it is transferred to the poor, it will have greater utility.
