Utility and Demand

Water, Water, Everywhere

Marginal Utility Theory

Household Consumption Choices

Budget Constraint

Lisa's Consumption Possibilities


The combination of goods and services a person chooses to consume from the available choices on the budget line is determined by their likes and dislikes - their preferences.

Lisa's Preferences

Utility is Abstract

Total Utility

Lisa's Total Utility

Marginal Utility

Lisa's Marginal Utility

The marginal utility of seeing an additional movie is the increase in total utility. When Lisa views a fifth movie, her marginal utility is 25 units.

Diminishing Marginal Utility

Maximizing Utility

Lisa's Utility-Maximizing Combination

The Utility-Maximizing Choice

A consumer equilibrium is a situation in which a consumer has allocated his or her income in the way that, given the prices of goods and services, maximizes his or her total utility.

Equalizing Marginal Utility per Dollar Spent

The allocation that maximizes total utility will also make the marginal utility per dollar spent on each good equal for all goods.

The marginal utility per dollar spent is the marginal utility obtained from the last unit of a good consumed divided by the price of the good.

Equalizing Marginal Utilities per Dollar Spent

Maximizing Total Utility

Total utility is maximized when all the consumer's income is spent and when the marginal utility per dollar spent is equal for all goods.

Lisa Maximizes Utility

MUmovies/ Pmovies = MUsoda/ Psoda

MUmovies/MUsoda = Pmovies/ Psoda

Why the Marginal Utility Rule Maximizes Total Utility

If the ratio of marginal utility to price is higher for movies than for soda, Lisa can increase total utility by consuming less soda and more movies.

The Power of
Marginal Analysis

Units of Utility

Predictions of Marginal Utility Theory

A Fall in the Price of Movies

How Consumption Changes When Movie Prices Fall

A Movie Price Decrease Affects Lisa's Choice

A Rise in the Price of Soda

A Soda Price Increase Affects Lisa's Choice

Predictions of Marginal Utility Theory

A Rise in Income

Higher Income Means Greater Consumption

Individual Demand and Market Demand

From Individual Demand to Market Demand

Marginal Utility and
the Real World

Other Uses of
Marginal Utility Theory

Criticisms of Marginal
Utility Theory

Utility Can't Be Observed

"People Aren't That Smart"

Implications of
Marginal Utility Theory

Consumer Surplus and
the Gains from Trade

People can gain by specializing in the production of the things in which they have a comparative advantage and then trading with each other.

When Lisa exchanges her income for movies and soda, are the dollars she gives up worth more or less than the movies and soda she consumes?

Consumer Surplus

Diminishing Marginal Utility and Consumer Surplus

Diminishing marginal utility guarantees that the value a consumer places on a good is always greater than its price for some units of the good.

Market Demand and Consumer Surplus

The Paradox of Value

The Utility of Water

The Utility of Diamonds

Marginal Utilities and Prices