Consumer Choice Review for AP Economics
Review questions for this study guide can be found at:
Main Topics: Total and Marginal Utility, Unconstrained Choice, Law of Diminishing Marginal Utility, Constrained Choice, Utility Maximizing Rule
If you pull back the curtain on the Law of Demand to study how consumers behave, much insight can be gained. It's important to remember that people demand things because those things make those people happy. We choose to consume mundane items like electricity or crackers, or luxury items like trans-Atlantic flights and tickets to an NFL game, because they provide us with happiness. In economics, we call this happiness (or benefit, or satisfaction, or enjoyment) utility.
While in the course of a week, consumption of more and more pints of Cherry Garcia ice cream is likely to increase our total utility, it is probably safe to say that the first pint in a week provides more marginal utility than the second, third, or fourth pint. If you recall from Chapter 5, analysis of marginal changes is extremely important in modeling how individuals make decisions.
- Total utility (TU) is the total amount of happiness received from the consumption of a certain amount of a good.
- Marginal utility (MU) is the additional utility received (or sometimes lost) from the consumption of the next unit of a good.
- Mathematically speaking: MU = ΔTU/ΔQ (this ΔQ is likely to equal 1 if you are consuming one additional unit at a time).
Table 7.5 summarizes the utility gained from consumption of successive cups of coffee in a typical morning at work. Some choose to measure utility in hypothetical "utils," but I like to think about these as "happy points."
As our coffee drinker (Joe) goes from zero to one cup of coffee, his total happiness from coffee drinking increases from zero to 20 happy points. The incremental, or marginal, change is also 20 points. The marginal utility is simply calculated as the difference between the totals as Joe consumes consecutive cups of coffee.
Unconstrained Consumer Choice
So how much coffee should our desk jockey consume in a typical morning? Assuming that he does not have to pay for each cup and can freely use the coffee machine, one might assume that Joe consumes unlimited amounts of coffee. Using Table 7.5 or Figure 7.16, you can easily see that total utility initially rises, peaks, and then begins to fall as more coffee is consumed. If Joe is a consumer who seeks to maximize happiness, and this seems a reasonable aim, he would not consume more than four cups of coffee, even if he were not asked to pay for each cup.
- Even if the monetary price of good X is zero, the rational consumer stops consuming good X at the point where total utility is maximized.
Diminishing Marginal Utility
From the above diagram (Figure 7.16), you can see a relationship between total utility and coffee consumption. There is the obvious rise, peak and fall of total utility as the number of cups increases. But closer inspection reveals that, as more coffee is consumed, total utility rises at a slower and slower rate. Since marginal utility is the rate at which total utility changes, marginal utility must be falling.
The Law of Diminishing Marginal Utility says that in a given time period, the marginal utility from consumption of one more of that item falls. A graphical depiction of marginal utility, also the slope of total utility, is seen in Figure 7.17.
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