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Learning Objectives. Explain why maximizing utility requires that the last unit of each item purchased must have the same marginal utility per dollar. Calculate the utility-maximizing choice.
The Marginal Rate of Substitution (MRS) is the rate at which a consumer would be willing to give up a very small amount of good 2 (which we call x 2) for some of good 1 (which we call x 1) in order to be exactly as happy after the trade as before the trade.
5 Φεβ 2020 · • Substitution effect: When the price of a good rises, a household wants less of the good and more of other goods, because the good is relatively more expensive. • Income effect: When the price of a good rises, a household wants less of all goods, because its budget constraint has changed for the worse.
Marginal Analysis: Calculate the marginal utility of each additional unit of a good obtained and compare it with its price. Allocate your resources in a way that the marginal utility per dollar spent is equal for all goods.
When allocating a budget, we can use the concepts of marginal utility and marginal benefit to help us decide where our money is best spent. In general, we should allocate our budget towards items that will provide us with the highest marginal utility or marginal benefit.
The second scoop provided 5 utils, meaning that the consumer gained 5 utils (units representing utility) whilst paying $0.50. Scaling upward, we see that this is equivalent to 10 utils/$.
Answer: A good is purchased up to where marginal utility per dollar spent is the same for all goods, MU 1 /p 1 = MU 2 /p 2. But when marginal utilities of different goods decline at different rates, marginal utility tells us virtually nothing about total utility.
