In this article we will discuss about:- 1. Definition of the Law of Diminishing Marginal Utility 2. Explanation of the Law of Diminishing Marginal Utility 3. Causes 4. Assumptions 5. Exceptions 6. Importance 7. Criticisms.
- Definition of the Law of Diminishing Marginal Utility
- Explanation of the Law of Diminishing Marginal Utility
- Causes of the Law of Diminishing Marginal Utility
- Assumptions of the Law of Diminishing Marginal Utility
- Exceptions to the Law of Diminishing Marginal Utility
- Importance of the Law of Diminishing Marginal Utility
- Criticisms of the Law of Diminishing Marginal Utility
1. Definition and Explanation of the Law of Diminishing Marginal Utility:
Human wants are unlimited. Resources are limited and they have alternative uses. A particular want can be satisfied with a point of time and all the wants cannot be satisfied at all. On the basis of such characteristic of want an important law of economics has been propounded which is called the law of diminishing marginal utility. The credit goes to Professor H.H. Gossen who has propounded this law which is called after his name the first law of Gossen or the law of satiety.
According to H.H. Gossen, “the amount of one and the same enjoyment diminishes continuously as we proceed with that enjoyment without interruption until satiety is reached”. According to this law although human wants are unlimited but a particular human want can be satisfied and a consumer appoints his equilibrium at the point of satiety.
The Law of Diminishing Marginal Utility has been defined by different economists.
Some of these definitions are given below:
(1) According to Professor Alfred Marshall, “the additional benefit which a person derives from a given increase of a stock of a thing, diminishes, other thing being equal, with every increase in the stock that he already has”.
The definition reveals that with the increase in the amount of a commodity the additional utility will decline and it applies other things being equal.
(2) Prof. K.E. Boulding has defined, “As a consumer increases the consumption of any one commodity, keeping consumption of all other commodities constant, the marginal utility of the variable commodity must eventually decline.”
The law operates when a consumer consumes different units of a commodity keeping the consumption of other commodities constant.
(3) According to Prof. Thomas, “The utility of additional supplies of a commodity diminishes with every increase but at a diminishing rate until eventually, any further increments of the commodity may even have disutility”.
The definition points out that the marginal utility not only declines with the consumption of additional units of a commodity but it becomes negative as well.
(4) Prof. Edward Nevin has defined, “The extra satisfaction derived from the consumption of additional units of any commodity tends to decline as the quantity consumed increases.”
With consumption of additional units of a commodity the utility derived by the consumer declines.
(5) Prof. J.M. Joshi has defined, “If the stock of a commodity increases at a uniform rate the benefit derived from it increases at the diminishing rate.” On the basis of all the definitions we can conclude that if a consumer consumes additional units of a commodity the marginal utility will decline and after a point it will be zero and even negative.
2. Explanation of the Law of Diminishing Marginal Utility:
The law can be explained with an example that Mr. Mohan consumes additional units of apple and the utility he derives as given in the following table:
Table 2 reveals that the utility derived by consumer from additional unit of apple decreases. The marginal utilities from different units are 8, 6, 4 and so on. The marginal utility from the 5th unit of apple is zero and thereafter it is negative.
On the basis of Table 2, we can represent MU diagrammatically as given below:
In the diagram, numbers of apples are shown on OX-axis and marginal utility on the OY-axis. MU curve shows the decreasing trend of all the units of apples. The 5th unit of apple gives zero (0) MU while the 6th unit gives negative marginal utility. A is the point of satiety, thereafter consumer should not consume additional unit of apple.
There are three stages of marginal utility as given below:
(i) MU shows a decreasing trend up to 4th unit of apple but it is positive.
(ii) MU is zero from the 5th unit of apple and it is the satiety point. Consumer should not consume after this point.
(iii) MU becomes negative with the consumption of 6th unit of apple.
3. Causes of the Law of Diminishing Marginal Utility:
(i) Satiety of a Want:
Human wants are unlimited and the resources are scarce with alternative uses. A particular want can be satisfied on a particular point of time. When a consumer consumes different units of a commodity on continuous basis the additional utility derived by him goes on declining and thereafter he gets zero and even negative utility. When he gets zero utility it means a saturation point has reached and after that point he would like to consume additional unit of that commodity. Hence, the law of diminishing utility will operate.
(ii) Intensity of Want Declines:
Utility of a commodity depends not only on the want satisfying power but also on the intensity of the want. As a consumer goes on consuming additional units of a commodity the intensity of this want goes down and consequently the subsequent utility goes on declining.
(iii) No Perfect Substitutes of Goods:
There are substitute goods but they can be substituted to some extent only and there is not perfect substitute of goods. For example, bread and butter are consumed in a ratio and any imbalance in the ratio of the two will give you diminishing marginal utility.
(iv) Nature of Human Behaviour:
It is the nature of human behaviour that a consumer will consume more of those goods which he has not consumed and less of those goods he has already consumed. Such nature of human behaviour is the cause of operating the law.
(v) Variety of Uses:
There are several commodities having a variety of uses or alternative uses in our daily life. The use of a commodity depends on the basis of priority for a particular use. For example, use of electricity depends upon the priority of a particular use. As we move from more important use of a commodity to less use of it the marginal utility of that commodity will decline.
4. Assumptions of the Law of Diminishing Marginal Utility:
The law of diminishing marginal utility operates only when other things remain same.
In other words, the law will operate when the following assumptions are in existence:
(i) All the Units of the Commodity should be Homogenous:
The law will operate only when all the units of the commodity consumed by the consumer are homogeneous or identical in quality and size. For example, Mr. Ram is consuming various units of apple. All the units of apple should be identical in quality, quantity and structure. If one unit is sour, another is small in size and sweet then the second unit will give more utility than the first unit of apple. Hence the law will operate when all the units of the commodity are homogeneous or identical.
(ii) Adequate and Suitable Quantity of Consumption:
The units of the commodity consumed by a consumer should be adequate and suitable in quantity. In other words, the units should neither be very small nor large in size. For example, a consumer is given drops of water instead of a glass of water when he is thirsty. The additional drops of water will give him more utility and the law will not operate.
(iii) Continuity in Consumption:
The law will operate when various units of a commodity are being consumed continuously. If there is gap between the consumption of one unit of the commodity and another unit of the commodity, the additional utility derived by the consumer will increase. For example, a consumer consumes one bread in the morning and another piece of bread at noon the law will not operate because there is no continuous consumption of bread.
(iv) No Change in the Mental State of Consumer:
The law of diminishing marginal utility will operate when the mental state of consumer does not change. For example, when a consumer has taken a peg of wine the utility he is deriving from additional units of chapati will increase because it will increase his hunger.
(v) Income, Habit, Taste and Preference of the Consumer do not Change:
The law will operate when the income, habit, taste and preference of the consumer do not undergo change while consuming the different units of a commodity. If these variables change the additional units of the commodity will give more utility.
(vi) Price of the Commodity and its Related Goods Remain Constant:
The law will operate when the price of the commodity under consumption and its related goods (substitutes and complementary goods) do not change. If there is change in the price of either the commodity or its related goods, the marginal utility of additional unit will increase and the law will not operate.
(vii) Want Should be a Single One and not Multiple Want:
The law will operate only when the consumption of various units of a commodity is done for satisfying a single want. If the consumption is carried on for the satisfaction of multiple want the law does not operate. For example, consumption for the demonstration purposes, social status, etc., the law will not operate because it is not a single want but it is a multiple want.
(viii) Applies to Pleasure Economy Only:
The law will apply in case of consumption which gives pleasure to consumer. In a painful economy the law will not operate because the pains a consumer is realising on account of non-availability of a commodity. For example, during drought fodder for animals is extremely needed and in that case the utility will increase.
(ix) Marginal Utility of Money Remains Constant:
The law applies only when the marginal utility of money does not change. It means whether you have more money or less its utility does not undergo change.
5. Exceptions to the Law of Diminishing Marginal Utility:
The law of diminishing marginal utility operates only when other things remain same as pointed by Prof. Alfred Marshall.
However, there are some exceptions to the law as given below:
(i) Consumption of Very Small Units of the Commodity:
The law of diminishing marginal utility does not hold good when the units of consumption of the commodity are very small in size and quantity. For example, if a thirsty person is given water in small drops in place of a glass of water the law does not operate.
(ii) Rare Commodities, Monuments and Antiques:
The law is not applicable in those cases where people collect rare commodities, monuments, antiques, old coins, documents, stamps, etc. For those things which are collected as a hobby the marginal utility will increase instead of decline in it.
(iii) Classical Music, Gazals, Poems, etc.:
The law does not apply in case of classical music, gazals, poems, etc. The audience will enjoy more by listening such music, gazals and poems and the law will not operate.
(iv) Complementary Goods:
The law does not apply to complementary goods as they are jointly demanded to satisfy a want of the consumer. For example, fountain pen and ink are jointly demanded and the law will not apply because it applies to single commodity only.
(v) Miser Men:
The law does not apply to miser men because their aim is to accumulate more and more of wealth or money. The additional units of money collected by them will give more satisfaction.
(vi) Alcoholic Drinks:
The law does not apply to alcoholic drinks. A drunkard takes additional pegs of wine and his satisfaction goes on increasing. Hence the marginal utility from additional peg will increase.
(vii) Increase in the Number of Users or Consumers:
The law will not apply to those goods and services whose consumers’ or users’ number is increasing. For example, the numbers of telephone connections are increasing day-by-day and the utility is increasing instead of decreasing in practical life.
(viii) Personal Hobbies:
The law does not apply to personal hobbies. For example, people have hobbies collecting old coins, old photos, old stamps and sea-shells. In such cases additional collection of these things will give them more satisfaction and the law will not operate.
The above exceptions to the law are superficial. As we find that ultimately the law of diminishing marginal utility will operate as a consumer goes on consuming additional units of a commodity.
The law is the fundamental law of consumer behaviour which is universally applicable. Several economic laws are based on it. As Professor Taussing has rightly pointed out, “The tendency (i.e., diminishing marginal utility) shows itself so widely and with so few exceptions that there is no significant inadequacy in speaking of it as universal.”
6. Importance of the Law of Diminishing Marginal Utility:
The law of diminishing marginal utility is a universally applicable law. It has theoretical as well as practical importance in economic analysis.
The importance of the law can be classified into two categories as given below:
A. Theoretical importance.
B. Practical importance.
A. Theoretical Importance of the Law:
The law of diminishing marginal utility has theoretical importance in the study of economic analysis.
Several economic laws have been propounded or are based on this law as given below:
(i) Law of Demand:
The law of demand is based on the law of diminishing marginal utility. As a consumer consumes additional units of a commodity the marginal utility declines. He can purchase more quantum of that commodity if the price charged is low. Contrary to it, by consuming less units the utility derived by him will be more and he is ready to pay even high price for the units of that commodity.
(ii) Law of Equi-Marginal Utility:
The law of equi-marginal utility is also based on this law. A consumer can maximise his satisfaction or utility when the marginal utilities of different units of different commodities are equalised.
(iii) Consumer’s Surplus:
The concept of consumer’s surplus is also based on the law of diminishing marginal utility. A consumer cannot pay more price than the marginal utility he is deriving from additional unit of all commodities. The additional utility he derives is greater than the previous one and the difference between the two is consumer’s surplus.
(iv) Theory of Pricing:
With the increase in the surplus of a commodity the marginal utility of that commodity will decline. The exchange value of the commodity will also decline. This law is the basis for the theory of pricing of various goods and services in the economy.
B. Practical Importance of the Law:
The law of diminishing marginal utility has practical importance in our life.
Practical importance of the law is discussed as given below:
(i) Basis of Production:
The law is the basis of production and on account of this law a variety of goods and services are produced and consumed in the economy. As the supply of a commodity increases its utility will decline and consequently, it will adversely affect the profit of a producer. In such a situation producer will produce those goods which are demanded more.
As consumer derives zero or negative marginal utility from the goods he will stop the consumption of such goods and divert his attention to consume those goods having more utility. It will encourage producers to produce more because of profitable venture.
(ii) Importance in Public Finance:
The law has practical importance in the field of public finance. Progressive rate of taxation is the basis of modern taxation system which collects more revenue from the rich sections of society as the marginal utility of money for these people is less. Contrary to it, poor people have paucity of money and the marginal utility of money to these people is high and they are not taxed by the government and economic assistance to these persons is given by the government.
(iii) Basis of Socialist System of Wealth Distribution:
The law of diminishing marginal utility also provides the basis for the distribution of wealth in a socialist economy. Wealth is transferred from rich to the poor so the marginal utility of money will increase which is low for rich people.
(iv) Value in Use and Value in Exchange is Explained:
By the law, value in use in case of air, water, etc., is greater than the value in exchange of diamond, and other valuables. Water and air are in plenty and on account of it their marginal utility is low and the value in exchange is also low. Contrary to it, diamond and other valuables are scarce and their marginal utility is high and on account of its value in exchange is also high.
Thus, we can say that the law of diminishing marginal utility is a universal law and it operates not only in consumption goods but the various sectors of the economy are also affected by the law.
7. Criticisms of the Law of Diminishing Marginal Utility:
Although the law of diminishing marginal utility is a universal law of consumer behaviour, it has been criticised on the following grounds:
(i) Utility is not Measurable:
The law is based on the cardinal measurement of utility. The concept of utility is a psychological concept which cannot be measured. At the same time, the measuring rod of utility is money which is not an exact and stable measurement as we find in case of natural and physical sciences.
(ii) Marginal Utility of Money does not Remain Constant:
In actual life we find that as the major part of income is spent and minor part of income remains with the consumer, he will spend the remaining part of income rationally and naturally the marginal utility of money will increase. The exchange value of money increases with the increase in its demand.
(iii) Based on Subjectivity:
The utility of a commodity is based on the nature of a consumer. It is related with the subjectivity of the consumer. The subjectivity of a consumer is also affected by several factors like time, country, taste, fashion and environment.
(iv) Ignores Macro Analysis:
The law is related with the micro analysis which deals with the individuals while in recent years the scope and importance of macroeconomic analysis has also gained ground and without it the study of economic analysis will not be correct and complete.
(v) Ignores other Effects:
The study of the law takes into consideration the increase in the consumption of a commodity only while in real life we see that there are several factors affecting the utility of a commodity. For example, prices and quantum of related goods (substitutes and complementaries) also affect the utility of a commodity. Such effects have been ignored by the law.