## Note on Law of Diminishing Marginal Utility

• Note
• Things to remember

Law of Diminishing Marginal Utility was first defined by a German Economist Herman Heinrich Gossen, in 1854. This law is known as The First Law of Gossen and later on, it was popularized by Alfred Marshall.

In 1854, H. Gossoon explained this law after Alfred Marshall in the following words, “ Other things remaining same, marginal utility becomes smaller and smaller as the more units of a commodity a person has.”

According to Alfred Marshall, ' The Law of Diminishing Marginal Utility is defined as the additional utility which a person derives from an increase of his stock of a commodity diminishes with every increase in the stock that he or she already has.”

This law says that the additional level of satisfaction goes on diminishing with every increase in units of consumption within the same period of time. When a consumer consumes more and more units of the same commodity, the successive level of utility diminishes.

#### ASSUMPTIONS

The Law of Diminishing Marginal Utility is based upon the following assumptions:

1. The consumer should be rational:

The consumer is regarded as the rational person who aims to maximize their satisfaction with their perfect knowledge required to maximize the satisfaction of the constraints imposed by their income and commodities.

1. Cardinal measurement of utility:

The consumption utility of any commodity can be measured. It is assumed that the satisfaction can be measured in the same way that the natural units of consumption can be calculated.

1. Constant Marginal utility of money:

This theory assumes utility can be measured in terms of cordial number. The basis of measurement of utility is money. Money is the measuring rod of utility. Being a measuring rod of utility, the marginal utility of money remains constant over the period of consumption.

1. Homogeneous units of goods:

The units of goods consumed by the consumer must be identical size. i.e homogeneous and same quality. otherwise, the law will not apply.

1. No change in task and preferences of the consumer:

It is required that the preference of the consumer do not change. Only then we can assume that the marginal utility declines as consumption increase.

The Law of Diminishing Marginal Utility can be explained by means of a numerical table and geometrically with a diagram which is given below:

 Units of good 'X' Total Utility Marginal Utility 0 0 10 1 10 8 2 18 6 3 24 4 4 28 2 5 30 0 6 30 -2 7 20 -4

The given table shows that a consumed goes on consuming goods the additional utility or marginal utility that the consumer obtained by consuming each successive unit of goods of 'x' goes on decreasing till it goes down to zero at the sixth unit and it becomes negative with the 7th unit. The total utility goes on increasing until the consumption of 5th unit and in the 6th unit the total utility stays constant but decreases in the 7th unit. The total utility increases at a diminishing rate. It is due to the diminishing marginal utility that the total utility increases at a decreasing rate.

In the figure, MUx is the marginal utility curve, which is derived on the basis of an individual consumption of successive units of good 'X'. MUx is downward sloping curve which means successive goods 'X' goes on declining throughout below the X-axis which indicates negative utility.

When the marginal utility is positive the total utility increases at a decreasing rate by upward sloping portion of the total utility curve TUx. Total utility is maximum where the marginal utility is zero. At the 6th unit, marginal utility becomes zero with the state of maximum satisfaction and total utility of 6th unit is 30. When marginal utility becomes negative, the total utility curve starts to fall by the downward sloping portion of TUxcurve.

#### LIMITATIONS OF THE LAW

The Law of Diminishing Marginal Utility is based on certain assumptions. In most of the time, these assumption are applicable. The law is not applicable in the case of the following situations:

• Rare and curious goods

In the case of rare goods such as old stamps, old coins, Yarsagumba, etc., the marginal utility goes on increasing rather than decreasing. So, the law does not hold true in this kind of situaion.

• Habitual goods

Several consumers may be habitual with different goods like cigarettes, alcohol, etc. When consumer consumes more and more units of such good, additional level of satisfaction goes on increasing rather than decreasing.

• Not applicable in cost of irrational consumer

The law assumes the consumer is a rational person. He aims to maximize his utility. The theory is applicable in a case of only rational consumer. However, it is very difficult to find the rational consumer as expected by the law.

• Utilities cannot be measured in cardinal number

This theory assumes that the satisfaction can be measured in units but,the critics said that utility is an internal feeling of the consumer and it differsfrom person to person. So, it cannot be measured in number. But it can rank like more or less.

• Time gap in consumption

The law assumes the consumer consumes various of a commodity continuously in a short period of time. Therefore, the law is not applicable if the consumer consumes the commodity in a long period of time with breaks or gaps.

• Changing taste and preference

The law is applicable if and only if the taste and preference of the consumer remain constant. In the case of changing taste and preference, the law is no applicable.

• Goods of entertainment

The law of diminishing marginal utility is not applicable in the case of goods of entertainment activities like watching movies, T20cricket etc. The further watching of these provides entertainment and thus satisfaction does not decrease.

• Public goods and basic goods

People consume various public goods like road, street, light, etc. Likewise, they consume many basic goods like food, clothes, etc. In the use of these goods, the level of satisfaction from additional unit does not decrease. So, it is against this law.

IMPORTANCE OF LAW OF DIMINISHING MARGINAL UTILITY

• MGuidelines for taxation

It guides the finance minister while formulating the tax policy. A progressive tax policy, high tax for high-income people and low tax for low-income people, is based upon the marginal utility theory.

• Basic for price determination

When a marginal utility is at least equal to its price,consumer desire to purchase the goods. The consumer will pay a higher price for those having higher MU and vice-versa.

• Guidelines for the distribution of national wealth

The distribution of wealth and national income should be done as per the guidelines of MU theory. Since, the demand of rich people beyond certain has a diminishing utility whereas if the government distribute the wealth to poor, it has definitely a higher marginal utility.

• Basis for various laws in economics

Various laws in economics are based on a law of diminishing marginal utility. For example, law of demand, a law of substitution etc. These laws are derived from the law of diminishing marginal utility.

• Basis for consumer expenditure:

This law is important to regulate the expenditure of the consumers. The consumer has a limited amount of budget with them. So, they do not waste budget by purchasing more qualities. They stop their further purchase at a point where MU equal to price.

(Karna, Khanal, and Chaulagain)(Khanal, Khatiwada, and Thapa)(Jha, Bhusal, and Bista)

Bibliography

Jha, P.K., et al. Economics II. Kalimati, Kathmandu: Dreamland Publication, 2011.

Karna, Dr.Surendra Labh, Bhawani Prasad Khanal and Neelam Prasad Chaulagain. Economics. Kathmandu: Jupiter Publisher and Distributors Pvt. Ltd, 2070.

Khanal, Dr. Rajesh Keshar, et al. Economics II. Kathmandu: Januka Publication Pvt. Ltd., 2013.

1. The law of diminishing marginal utility expresses the universal human experience.
2. Law of diminishing marginal utility was first defined by a German economist Herman Heinrich Gossen in 1854.
3. This law of diminishing marginal utility is known as the first law of Gossen and later on, it was popularized by Alfred Marshall.
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