Consumer Behaviour 2y1p5v

Consumer Behaviour The consumer has to decide how much to spend his income on different goods and services. Economists call this the problem of choice. Most naturally the consumer will want such a combination of goods that will give him/her maximum satisfaction. This best combination, or bundle, will depend on his preferences, and his affordability to buy those goods and services. For the sake of simplicity of comparison, we shall assume that a consumer uses only two goods, denoted by x1 and x2 respectively. For example in the case for apples and mangoes, if one buys 5 apples and 2 mangoes, the situation is denoted as (5,2) where x1 denotes the quantity of apples while x2 the quantity of mangoes.

UTILITY The utility of a good is defined to be its want-satisfying capacity. The more is the need of a commodity, the more desire one has to buy it, and thus, more is the utility of that given product. The utility of a product may differ from person to person, place to place and from time to time. For example, a smartphone may have more utility for someone who is getting it for the first time as compared to someone who already has two or three already in his possession.

Cardinal Utility Analysis Cardinal Utility Analysis assumes that the utility of a particular product can be measured in numbers.

MEASURES OF UTILITY 1. Total Utility is the total satisfaction gained from consuming a fixed quantity of a particular good or service. More of a commodity x gives more satisfaction to the consumer up to a certain limit. Thus, TU depends on the quantity of the good consumed. Thus, another way to put it, TU refers to the total utility derived from consuming n units of commodity x. 2. Marginal Utility is the change in the TU due to consumption of an additional unit of a commodity. For example, if the TU of 5 apples is 19 units and that of 6 mangoes is 20 units, the MU of the 6th mango is 20 – 19 = 1 unit. Or, TU6 – TU5 = 1 unit. Thus, TUn+1 – TUn = MUn+1. Or it can also be said that: TUn= MU1 + MU2 + MU3 +…MUn-1 + MUn

Usually, it is seen that the MU of a particular product diminishes over time as consumption of that product increases. This happens because as one consumes more and more of a product, the desire to have more of it weakens.

Units 1 2 3 4 5 6 7

Total Utility 12 17 18 18 16 14 11

Marginal Utility 12 5 1 0 -2 -2 -3

20

15

10

5

0

0

1

2

3

4

5

6

7

8

-5

Graphical representation of Total Utility and Marginal Utility The point (4,18) here is called the point of satiety, where the maximum total utility one can have from that commodity is at four units of the commodity. Here, one may observe that: a. Initially, Total Utility and Marginal Utility are equal. b. From the consumption of the second unit, total utility increases at a diminishing rate, and MU too decreases. Thus the TU curve slopes upwards while the MU curve slopes downwards. c. When TU is maximum, MU is zero. It indicates maximum satisfaction (point of satiety). At this point, the MU curve touches the x axis and TU curve reaches its maximum height. d. As TU declines, the MU curve too, es the x axis and becomes negative, showing dissatisfaction of the consumer. Thus, the TU curves falls, and the MU curve falls into the 1st Quadrant.

Cardinal Utility Analysis and Demand Cardinal Utility Analysis can also be used to derive the demand curve for a commodity. The quantity of goods and services a consumer is both able to afford as well as willing to buy, at the prevalent price rates and the incomes of the consumer, is called the demand for the particular good or service. The demand for a commodity x, save for x’s price, also depends on the prices of other commodities, the income of the consumer, as well as his tastes and preferences. A demand curve is a graphical representation of the quantity of a particular commodity demanded by the consumer at various prices, assuming that all other factors like the consumer’s income, general price levels etc. remain constant.

Demand Curve 60

50

40

30

20

10

0 0

10

20

30

40

50

60

Here one sees that as prices rise, the quantity consumed by the consumer decreases, while at low prices, the demand for the same commodity increases. Why is it so? Why does the demand curve have a negative slope? It is because of the law of Diminishing Marginal Utility. Since with the increase of every additional commodity, the total utility of the given commodity decreases, (the marginal utility of the commodity, too, decreases) the consumer does not naturally want to spend more money on the commodity, and so prices of the commodity decrease, or rather they have to decrease.

Ordinal Utility Analysis Though it being comparatively simple in nature, the Cardinal Utility Analysis faces a major drawback. Utility of a particular commodity cannot always be quantified in

objective, rigid numbers, and many a time, the bundles of the goods can be better compared with each other.