Choice, Change, Challenge, and Opportunity

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Maximizing Utility

• Preferences
• A households preferences determine the benefits
  or satisfaction a person receives consuming a
  good or service.
• The benefit or satisfaction from consuming a good
  or service is called utility.
• Total Utility
• Total utility is the total benefit a person gets
  from the consumption of goods. Generally, more
  consumption gives more utility.

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Maximizing Utility

• Table 8.1 provides an example of total utility
  schedule.
• Total utility from a good increases as the
  quantity of the good increases.
• For example, as the number of movies seen in a
  month increases, total utility from movies
  increases.

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Maximizing Utility

• Marginal Utility
• Marginal utility is the change in total utility
  that results from a one-unit increase in the
  quantity of a good consumed.
• As the quantity consumed of a good increases, the
  marginal utility from consuming it decreases.
• We call this decrease in marginal utility as the
  quantity of the good consumed increases the
  principle of diminishing marginal utility.

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Maximizing Utility

• Table 8.1 provides an example of marginal utility
  schedule.
• Marginal utility from a good decreases as the
  quantity of the good increases.
• For example, as the number of movies seen in a
  month increases, marginal utility from movies
  decreases.

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Maximizing Utility

• Figure 8.1(a) shows a total utility curve for
  soda.
• Total utility increases with the consumption of a
  soda increases.

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Maximizing Utility

• Figure 8.1(b) illustrates diminishing marginal
  utility.
• As the quantity of soda increases, the marginal
  utility from soda diminishes.

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Maximizing Utility

• The key assumption of marginal utility theory is
  that the household chooses the consumption
  possibility that maximizes total utility.
• The Utility-Maximizing Choice
• We can find the utility-maximizing choice by
  looking at the total utility that arises from
  each affordable combination.
• The utility-maximizing combination is called a
  consumer equilibrium.

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Maximizing Utility

• Table 8.2 shows Lisas utility-maximizing choice.
• Lisa has 40 a month to spend on movies and soda.
• The price of a movie is 8 and the price of soda
  is 4 a case.
• Each row of the table shows a combination of
  movies and soda that exhausts Lisas 40.

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Maximizing Utility

• Lisa chooses the combination that gives her the
  highest total utility.
• Lisa maximizes her total utility when she sees 2
  movies and drinks 6 cases of soda a month.
• Lisa gets 90 units of utility from the 2 movies
  and 225 units of utility from the 6 cases of soda.

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Maximizing Utility

• Choosing at the Margin
• A consumers total utility is maximized by
  following the rule
• Spend all available income.
• Equalize the marginal utility per dollar for all
  goods.
• The marginal utility per dollar is the marginal
  utility from a good divided by its price.

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Maximizing Utility

• The Utility-Maximizing Rule
• Call the marginal utility of movies MUM .
• Call the marginal utility of soda MUS .
• Call the price of movies PM .
• Call the price of soda PS .
• The marginal utility per dollar from seeing
  movies is MUM/PM .
• The marginal utility per dollar from soda is
  MUS/PS.

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Maximizing Utility

• Total utility is maximized when
• MUM/PM MUS/PS
• Table 8.3 shows why the utility-maximizing rule
  works.
• The combination is each row is affordable (costs
  40).
• In row C,
• MUM/PM MUS/PS 5.

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Maximizing Utility

• If MUM/PM gt MUS/PS,
• then spend less on soda and more on movies.
• MUM decreases and
• MUS increases.
• Only when MUM/PM MUS/PS, is it not
  possible to reallocate the budget and increase
  total utility.