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Neo Classical Utility Analysis

The Neo-Classical Utility Analysis
The neo-classical utility denotes the theory of customer demand as defined by Marshall, Pigou and others. This theory is found on the fundamental amount of utility which presumes that utility is quantifiable and additive. It is articulated as a volume measured in theoretical units which are called 'utils'.

Postulations of Utility Analysis

The utility analysis is based on a set of following hypotheses.
  • The utility analysis is found on the key idea which presumes that utility is quantifiable and additive like weights and lengths of goods.

  • Utility is quantifiable in terms of funds

  • The marginal utility of money is supposed to be invariable

  • The consumer is realistic who measures, estimates prefers and match up to the utilities of diverse units of the a variety of merchandise and aspires at the optimization of utility

  • He has complete acquaintance of the accessibilities of merchandise and their hi-tech merits

  • He has acquired ideal information of the preference of merchandise open to him and his options are certain

  • He knows the precise prices of a variety of merchandise and their utilities are not inclined by dissimilarity in their prices

  • There are no surrogates
Total Utility vs. Marginal Utility

Total utility is that, for instance, let us take a consumer commodity chocolate. When a consumer purchases 5 units of chocolate, the first unit which he consumes will be with higher level of satisfaction. The second unit he consumes will be considerably lower than the first. Hence the unit consumed first will be called the total utility. When he consumes the third unit, he will be much lesser satisfied than the other two. The consumption of the third unit is called marginal utility. But in case if the consumer is satisfied with all the units he consumed, then there is no marginal utility. If all the five units are consumed with utmost satisfaction, then the marginal utility is zero.

The Law of Diminishing Marginal Utility

One of the qualities of human requirements is their inadequate concentration. As we have further of anything in series our passion for its ensuing unit reduces. This overview of appropriate needs is known as Law of Diminishing Marginal Utility. Gosen stated it as "The magnitude of one and the same satisfaction, when we continue to enjoy it without interruption, continually decreases until satisfaction is reached." Taking the above example, the imaginary customer takes the first chocolate he obtains the maximum contentment. As he consumes the second, third and fourth units consecutively he originates less satisfaction. With the consumption of the last unit, he reaches the safety point as the satisfaction derived from that unit is zero.

  • Homogeneous Units - There must be a single commodity with standardized units wanted by an individual customer. Entire units of the community should be of the same credence and class.

  • No change in tastes - There shouldn't be change in savour, behaviour, traditions, manners and revenue of the customer. A change in any of them will add to a certain extent than to reduce utility.

  • Continuity - There ought to be stability in the use of the commodity. Units of the commodity should be utilised in sequence at one exacting instance.

  • Suitable Size Units - Units of the commodity must be of an appropriate dimension. For instance, providing water in ladle will increase the utility of the succeeding ladles of water.

  • Constant Prices - Prices of diverse units and of surrogates of the commodity ought to stay alike.

  • Invisible Goods - The commodity must not be inseparable. In case of durable consumer goods it is not likely to compute their utility as their use is extended over a phase of time. In addition, a customer does not buy three refrigerators or eight microwaves.

  • Rational Consumers - The customer must be a money-making man, who acts logically. If he is under the pressure of an intoxicant, say wine or opium, the utility of the latter units will go up.

  • Ordinary Goods - Goods must be of a normal type. If they are commodities like gold and silver or leisure pursuit possessions like stamps, coins or work of art the law does not comply.

  • Marginal Utility of Money not constant - Our passion for money is augmented as we have more of it. No hesitation, the marginal utility of money does not turn out to be zero, but it unquestionably cascade as a person attains more and extra money. The marginal utility of money for a rich man is not as much while it is far above the ground for a poor man.
Importance of Law

  • The Law of Diminishing Marginal Utility is the basic law of consumption. The law of demand, the Law of Equi-marginal Utility, and the concept of Consumer's Surplus are depended on it.

  • The changes in design, pattern and packing of commodities very frequently brought about by producers are in keeping with this law. We know the use of the same product makes us feel uninterested. Its utility weakens in our opinion.

  • The law helps to make clear the occurrence in value theory that the price of a commodity cascades when its supply amplified. It is since with the raise in the stock of a commodity its marginal utility shrinks.

  • The well-known Diamond-water paradox of smith can be elucidated with the help of this law. As of their relative scarcity, diamonds enjoys high marginal utility and so a far above the ground price.

  • The principle of progression in taxation is also depended on this law. As a person's revenue is amplified the rate of tax goes up since the marginal utility of money to him cascade with the increase in his takings.

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