What does the economic term “Utility” mean?

Utility means “satisfaction.”

How do we measure utility?

We measure utility with what is called,

UTILS

Because of the basic economic problem of unlimited wants and scarce resources, consumers have to make choices, we call this….

Consumer Choice & Budget Restraint

Consumer Choice & Budget RestraintDefinitions:

Budget Restraint:The limit which the size a consumer’s income (and the prices required for goods and services)Imposes on the ability to of that consumer to obtain goods and services.

The Budget Line:

A budget line describes the limits to consumption choices and depends on a consumer’s budget and the prices of goods and services

Points A through E on the graph represent the rows of the table.

Let’s assume that a person wants to have bottled water and chewing gum on a daily basis.The table of budget restraint and budget line for her consumption would look something like this…

The Budget Line Shows her Consumption Possibilities

The budget line separates combinations that are affordable from combinations that are unaffordable.

Consumer Choice & Budget RestraintDefinitions:

Total UtilityThe total satisfaction derived from the consumption of a single product or combination of products.

Marginal Utility

The increase or decrease of satisfaction derived from each additional product consumed.

Part (a) graphs the consumer’s total utility from bottled water.

Figure 11.5 shows total utility and marginal utility.

Graphs of TU and MU

Each bar shows the extra total utility she gains from each additional bottle of water—her marginal utility.

The blue line is the customer’s total utility curve.

Part (b) shows how the marginal utility from bottled water diminishes by placing the bars shown in part (a) side by side as a series of declining steps.

The downward sloping blue line is the marginal utility curve.

Graphs of TU and MU

Remember the Law of Diminishing Marginal Utility….MU always slopes downward, TU always slopes upward

Consumer Choice & Budget RestraintDefinitions:

Utility Maximizing Rule:The consumer maximizes utility when they choose amounts of goods X & Y with their limited income, so that the Marginal Utility per dollar spent is equal for both goods.

Constrained Utility Maximization

Constrained by prices & income, a consumer stops consuming a good when the marginal utility of both goods is equal and they have used all of their income (or as close as possible).

The table below shows total utility in utils that a utility-maximizing consumer receives from consuming two goods: apples and oranges.

Apples OrangesQuantity Total utility Quantity Total utility 0 0 0 0 1 20 1 30 2 35 2 50 3 45 3 65 4 50 4 75 5 52 5 80

Apples Total Oranges TotalQuantity utility Quantity utility 0 0 0 0 1 20 1 30 2 35 2 50 3 45 3 65 4 50 4 75 5 52 5 80

Assume that apples cost $1 each, oranges cost $2 each, and the consumer spends the entire income of $7 on apples and oranges.

(a)Using the concept of marginal utility per dollar spent, identify the combination of apples and oranges the consumer will purchase. Explain your reasoning.

Mu Mu

-- 20-- 15-- 10-- 5-- 2

-- 30-- 20-- 15-- 10-- 5

Mu/$1

20151052

Mu/$2

15107.552.5

1510

Apples Total Oranges TotalQuantity utility Quantity utility 0 0 0 0 1 20 1 30 2 35 2 50 3 45 3 65 4 50 4 75 5 52 5 80

1510

(a)Using the concept of marginal utility per dollar spent, identify the combination of apples and oranges the consumer will purchase. Explain your reasoning.

The consumer will purchase 3 apples and 2 orangesbecause this is where the Mu/per dollar is equal andwhere the consumer maximizes satisfaction for a totalutility of 95. (Maximum utility answer is not good enough.)

Mu Mu

-- 20-- 15-- 10-- 5-- 2

-- 30-- 20-- 15-- 10-- 5

Mu/$1

20

52

Mu/$2

7.552.5

Apples Total Oranges TotalQuantity utility Quantity utility 0 0 0 0 1 20 1 30 2 35 2 50 3 45 3 65 4 50 4 75 5 52 5 80

Mu Mu

-- 20-- 15-- 10-- 5-- 2

-- 30-- 20-- 15-- 10-- 5

Mu/$1

20151052

Mu/$2

15107.552.5

(b) With the prices of apples and oranges remaining constant (apples $1, oranges $2), assume that the consumer’s income increases to $12. Identify each of the following. 4 apples and 4 oranges because that is where

Mu/per dollar is equal.

(i) The combination of apples and oranges the consumer will now purchase.

Apples Total Oranges TotalQuantity utility Quantity utility 0 0 0 0 1 20 1 30 2 35 2 50 3 45 3 65 4 50 4 75 5 52 5 80

Mu Mu

-- 20-- 15-- 10-- 5-- 2

-- 30-- 20-- 15-- 10-- 5

Mu/$1

20151052

Mu/$2

15107.552.5

(b) With the prices of apples and oranges remaining constant (apples $1, oranges $2), assume that the consumer’s income increases to $12. Identify each of the following. 4 apples and 4 oranges because that is where

Mu/per dollar is equal.

(ii) The total utility the consumer will receive from consuming the combination in (i) 50 + 75 = 125 utils

Apples Total Oranges TotalQuantity utility Quantity utility 0 0 0 0 1 20 1 30 2 35 2 50 3 45 3 65 4 50 4 75 5 52 5 80

Mu Mu

-- 20-- 15-- 10-- 5-- 2

-- 30-- 20-- 15-- 10-- 5

Mu/$1

20151052

Mu/$4

7.55

3.752.5

1.25

(c ) With income remaining at $12, assume the price of oranges increases to $4 each (apples remain at $1 each). Identify each of the following.

(i) The combination of apples and oranges the consumer will now purchase.

4 apples and 2 oranges

Apples Total Oranges TotalQuantity utility Quantity utility 0 0 0 0 1 20 1 30 2 35 2 50 3 45 3 65 4 50 4 75 5 52 5 80

Mu Mu

-- 20-- 15-- 10-- 5-- 2

-- 30-- 20-- 15-- 10-- 5

Mu/$1

20151052

Mu/$4

7.55

3.752.5

1.25

(c ) With income remaining at $12, assume the price of oranges increases to $4 each (apples remain at $1 each). Identify each of the following.

4 apples and 2 oranges(ii) The total utility the consumer will receive from

consuming the combination in (i)50 + 50 = 100 utils