key term - Diminishing Marginal Utility

Definition

Diminishing marginal utility is an economic principle that states as a person consumes more of a good or service, the additional satisfaction or benefit derived from each additional unit decreases. This concept is central to understanding how individuals make choices based on their budget constraints and consumption decisions.

5 Must Know Facts For Your Next Test

1. Diminishing marginal utility explains why people tend to consume less of a good as they consume more of it.
2. The law of diminishing marginal utility states that as a person consumes more of a good, the additional satisfaction they receive from each additional unit decreases.
3. Diminishing marginal utility is a key factor in how individuals make choices based on their budget constraints, as they try to maximize their total utility.
4. Diminishing marginal utility influences consumption choices, as people will typically allocate their limited budgets to goods that provide the highest marginal utility.
5. The concept of diminishing marginal utility is crucial for understanding consumer behavior and how individuals make decisions to optimize their consumption.

Review Questions

• Explain how the principle of diminishing marginal utility affects an individual's consumption choices within their budget constraint.
  • The principle of diminishing marginal utility states that as a person consumes more of a good, the additional satisfaction or benefit they derive from each additional unit decreases. This means that individuals will allocate their limited budgets to goods that provide the highest marginal utility first, and then move on to goods that provide lower marginal utility as they consume more. This helps them maximize their total utility within their budget constraint, as they try to get the most satisfaction from their available resources.
• Describe how the concept of diminishing marginal utility influences an individual's consumption decisions across different goods and services.
  • The concept of diminishing marginal utility suggests that individuals will shift their consumption patterns as they consume more of a good or service. Initially, they will consume the good or service that provides the highest marginal utility. However, as they consume more of that good, the marginal utility will diminish, and they will start to allocate their limited resources to other goods or services that can provide them with higher marginal utility. This process of shifting consumption to maximize total utility is a key factor in how individuals make consumption choices based on their budget constraints.
• Analyze how the principle of diminishing marginal utility and the concept of budget constraints work together to shape an individual's consumption decisions.
  • The principle of diminishing marginal utility and the concept of budget constraints are closely related and work together to influence an individual's consumption decisions. Diminishing marginal utility explains why people tend to consume less of a good as they consume more of it, as the additional satisfaction they derive from each unit decreases. This, in turn, affects how individuals allocate their limited budgets to maximize their total utility. Faced with budget constraints, people will first spend their money on goods that provide the highest marginal utility, and then shift their consumption to other goods as the marginal utility of the initial goods diminishes. This interplay between diminishing marginal utility and budget constraints is a fundamental aspect of how individuals make rational consumption choices.

Related terms

Utility:

The satisfaction or benefit a person derives from consuming a good or service.

Marginal Utility:

The additional satisfaction or benefit a person receives from consuming one more unit of a good or service.

Budget Constraint:

The limit on the combination of goods and services a person can purchase given their income and the prices of those goods and services.