Utility is the want satisfying power of a consumer for a specific

commodity. It is measured in utils.

Under the cardinal utility approach, we assume that the utility level can
be measured and expressed in numbers. (Alfred Marshal)

Under the cardinal utility approach, we assume that we cannot measure

their satisfaction level in numbers. However, we can rank our
preferences amongst the alternatives by expressing which commodity
gives less or more utility. (J.R hicks)

The total utility of a commodity’s fixed quantity is the total satisfaction

level derived by a consumer from the consumption of a given
commodity.
TUn = U1 + U2 + U3+…………………….+ Un

The marginal utility of a commodity is the change in its total utility

because of the consumption of one additional unit of the commodity.
MUn = TUn – TUn-1

● The law of diminishing marginal utility states that as a consumer

consumes more of a commodity, the marginal utility derived from
every additional unit consumed will decrease.

Assumptions for the law of diminishing marginal utility are:

● There is continuous consumption of a commodity.

● The consumer is consuming only standard units of a commodity.
● The satisfaction level is measured in numerical or quantitative terms.
● The quality of a commodity does not change.
● The consumer consuming the commodities is rational.
● The income of the consumer and the price of the commodity are fixed.
Burger Total Utility Marginal Utility
(Units) (TU) (MU)

0 0 –

1 8 8–0=8

2 14 14 – 8 = 6

3 18 18 – 14 = 4

4 20 20 – 18 = 2

5 20 20 – 20 = 0

6 18 18 – 20 = -2
Observations :
1. When MU > 0, then TU increases at Diminishing rate.
2. When MU = 0, then TU is maximum.
3. When MU < 0, then TU starts falling.
Law of Diminishing Marginal Utility
 Consumer’s Equilibrium is a situation in which a consumer has
maximum satisfaction with limited income and does not tend to change
his existing way of expenditure.

Consumer’s Equilibrium in the case of a single

commodity

MUx = Px (Equilibrium Condition under Single Commodity)

Marginal Utility
Price (Px) Marginal Utility
Units of x in ₹ (MUx) MUx – Px
(₹) (Utils)
1 util = ₹1

1 10 30 30/1 = 30 20

2 10 20 20/1 = 20 10

3 10 10 10/1 = 10 0

4 10 0 0/1 = 0 -10

5 10 -10 -10/1 = -10 -20

If MUx > Px, then the consumer will not be at equilibrium and he
continues to purchase the commodity as the benefit gained from
the consumption is more than the cost of the commodity.

if MUx < Px, then also the consumer will not be at equilibrium and
he will have to reduce the consumption of the commodity in
order to increase the satisfaction level, till MU becomes equal to
the price.
Consumer’s Equilibrium in the case of a Two
commodity

MUx / Px = MUy / Py (Equilibrium Condition under Two Commodities)

 MU of Commodity x MU of commodity y
Units
(in utils) (in utils)

1 26 22

2 20 18

3 16 15

4 15 13

5 12 11

6 10 4

7 4 2
If MUx / Px > MUy / Py it means that the consumer is getting more
Marginal Utility from commodity x as compared to commodity y.
Consumer will increase the consumption of good x.

If MUx / Px < MUy / Py it means that the consumer is getting more

Marginal Utility from commodity y as compared to commodity x.
Consumer will increase the consumption of good y.
Law of Equi-Marginal Utility also known as the Law of Substitution, Law
of Maximum Satisfaction, and Gossen’s Second Law is based on the
Law of DMU; therefore, all of its assumptions will apply to the Law of
Equi-Marginal Utility also. The Law of Equi-Marginal Utility, states that a
consumer gets maximum satisfaction, when ratios of MU of two
commodities and their respective prices are equal and MU falls as
consumption increases.

Indifference curve analysis (ordinal approach) J.R hicks

A curve or a graphical representation of the combination of different
goods providing the same satisfaction level to the consumer is known
as the Indifference Curve.
A process of analyzing a simple two-dimensional graph representing
two goods, one on the x-axis and the other on the y-axis is known as
an Indifference Curve Analysis.

When more than one curve is represented on a graph showing a

different combination of two different goods on each curve, it is known
as an Indifference Map.

A table or a schedule that shows different combinations of two goods

giving the same level of satisfaction to the consumer is known as an
Indifference Schedule.
All the points or all the bundles on an indifference curve that gives
the same level of satisfaction to the consumer are known as the
Indifference Sets.

\
Marginal Rate of Substitution can be defined as the amount of Good Y
sacrificed to obtain an additional unit of Good X without affecting the
total satisfaction level.
MRS = change in goods X / change in good Y

1. Indifference Curve always slopes downwards from left to right

An indifference curve is defined as a curve that gives an equal level of

satisfaction to a consumer at every possible combination. It is possible
when a consumer is willing to sacrifice some quantity of a good to gain
an additional unit of another good. If a consumer is having more of a
good without any fall in another good, the consumer will achieve a
higher satisfaction level instead of equal. This fall in units of one good
to gain more of another good gives a downward slope to the indifference
curve.

2. Indifference Curves are always convex to the point of origin

The shape of an indifference curve is based on the Diminishing Marginal

Rate of Substitution. It means that to gain a single extra unit of a good, a
consumer is willing to sacrifice more of another good. As in the case of
Nisha (example above), to gain one more unit of chocolate, she is willing
to sacrifice more units of ice-creams. This diminishing marginal rate of
substitution gives a convex shape to an indifference curve.

The Diminishing Marginal Rate of Substitution refers to the consumer’s

willingness to part with less and less quantity of one good to gain one
more additional unit of another good.
3. Higher Indifference Curves represent a higher level of
satisfaction

A higher indifference curve represents a higher level of satisfaction, or

we can say that an indifference curve to the right of another gives more
satisfaction. This property of the indifference curve is based on the
assumption of monotonic preference. Monotonic Preference means that
a consumer will always prefer a larger bundle, as it gives him/her a
higher satisfaction level. In other words, as a consumer prefers more
goods, and a higher indifference curve will give a higher satisfaction
level.
4. Two Indifference Curves cannot intersect each other

An indifference curve consists of different combinations of two goods

giving the same satisfaction level to a consumer. It means that every
point on an indifference curve gives the same satisfaction to the
consumer. Also, an indifference map consists of different indifference
curves with different satisfaction levels in each curve. If two indifference
curves intersect with each other, it would mean that one point on each
curve gives the same level of satisfaction which contradicts the meaning
of an indifference map. Therefore, two indifference curves never
intersect each other.
5. An Indifference Curve never touches either of the axes

The indifference curve is based on the assumption that a consumer

considers different possible combinations of two goods and wants both
goods. If an indifference curve touches either of the axes, it would mean
that a consumer is consuming the whole of one good only, which is not
possible and contradicts the assumption. Therefore, an indifference
curve never touches either of the axes.

What is the Budget Line?

The term budget line refers to a graphical representation of all the

potential combinations of two commodities that can be bought within a
certain income and price, and all of these combinations provide the
same satisfaction level. It comes with the condition that the cost of each
combination must be less than or equal to the consumer’s money
income. Simply put, a budget line is the locus of various combinations
of two goods a consumer consumes and whose cost is equal to his
income. Other names of Budget Line are Price Line, Price Opportunity
Line, Budget Constraint Line, or Price Income Line.
 Potential Good X Good Y Money Spent = Individual Income
Combinations (₹8 each) (₹4 each) (₹)

E 5 0 (5 x 8) + (0 x 4) = 40

F 4 2 (4 x 8) + (2 x 4) = 40

G 3 4 (3 x 8) + (4 x 4) = 40

H 2 6 (2 x 8) + (6 x 4) = 40

I 1 8 (1 x 8) + (8 x 4) = 40

J 0 10 (0 x 8) + (10 x 4) = 40
The Budget Line can be expressed as an equation:
M = (PX x QX) + (PY x QY)
Where,
M = Individual’s Income
PX = Price of Commodity X
Qx = Quantity of Commodity X
PY = Price of Commodity Y
QY = Quantity of Commodity Y
The Slope of a Budget Line is denoted by the Market Rate of Exchange
or MRE. Market Rate of Exchange is the rate at which one good is
sacrificed in the market in order to obtain one additional unit of other
goods. Also, the slope of a budget line or MRE is equal to the Price Ratio
of two goods.
The price of the goods on the X-axis divided by the price of the goods
on the Y-axis is known as Price ratio. For example, if Good X is shown
on horizontal axis and Good Y on vertical axis,

Properties of Budget Line

The two major properties of a Budget Line are as follows:

1. Budget Line slopes Downward: The slope of a budget line is
negative. It means that as more of one good is bought by
reducing some units of the other good, the slope of the budget
line goes downwards.
2. Budget Line is a Straight Line: We know that the slope of the
Budget Line is represented by the Price Ratio, which is constant
throughout; therefore, the Budget Line is a straight line.
Shift in Budget Line

i) Change in Prices of both Commodities:

ii) Change in the Price of Commodity on the X-axis (Good X):

iii) Change in the Price of Commodity on the Y-axis (Good Y):
Consumer’s Equilibrium by Indifference Curve Analysis

Conditions of Consumer’s Equilibrium

1. MRSXY = Ratio of Prices = Market Rate of Exchange (MRE)
2. MRS continuously falls