Utility

Summary

Utility in economics refers to the satisfaction or happiness derived from consuming goods and services. Total utility — the overall satisfaction from consuming all units of a good.
Example: Eating three slices of pizza gives a total utility of 30 units.
Marginal utility — the additional satisfaction from consuming one more unit of a good.
Example: The satisfaction from eating a second slice of pizza is 5 units.
Diminishing marginal utility — as more units of a good are consumed, the additional satisfaction decreases.
Example: The third slice of pizza gives less satisfaction than the first.
Equi-marginal principle — consumers maximize utility by allocating their budget so that the marginal utility per dollar is equal across all goods.
Example: Buying 4 units of product x and 3 units of product y to maximize satisfaction.

Exam Tips

Key Definitions to Remember

• Total utility: Overall satisfaction from consuming all units of a good.
• Marginal utility: Additional satisfaction from consuming one more unit.
• Diminishing marginal utility: Decrease in additional satisfaction with each additional unit consumed.
• Equi-marginal principle: Allocation of budget to equalize marginal utility per dollar across goods.

Common Confusions

• Confusing total utility with marginal utility.
• Assuming consumers always act rationally.

Typical Exam Questions

• What is necessary to act as a ‘rational consumer’? Understanding of utility maximization and rational decision-making.
• What is the effect on total satisfaction of consuming extra units of the good? Total satisfaction rises at a decreasing rate.
• If a consumer wants to maximize total utility, which combination of goods would they consume? The combination where marginal utility per dollar is equal across goods.

What Examiners Usually Test

• Understanding of the law of diminishing marginal utility.
• Application of the equi-marginal principle in consumer choice.
• Ability to derive and interpret individual demand curves.