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Chapter 10 Notes

# Chapter 10 Notes - [ChapterTen LearningObjectives After...

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[Chapter Ten] The Logic of Individual Choice:  The Foundation of Supply and Demand Learning Objectives After reading the material in this chapter, you will be able to do the following: 1. Discuss the principle of diminishing marginal utility. 2. Summarize the principle of rational choice. 3. Explain the relationship between marginal utility and price when a consumer is maximizing total utility. 4. Explain how the principle of rational choice accounts for the laws of demand and supply. 5. Name three assumptions of the theory of choice and discuss why they may not reflect reality. 6. Give an example of how behavioral economists change the assumption of utility maximization. Chapter Outline Utility Theory and Individual Choice People do what they do because it’s in their self- interest. Two things determine what people do: utility and price. Utility: “the pleasure or satisfaction people get from doing or consuming something.” Total Utility and Marginal Utility Total Utility: “the total satisfaction one gets from consuming a product.”

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Marginal Utility: “the satisfaction one gets from consuming one additional unit of a product above and beyond what one has consumed up to that point.”
Example: eating 16 ounces of Beluga caviar provides 4,700 units of utility; eating 15 ounces provides 4,697 units of utility. The 16 th ounce gives you 3 additional units of utility. The marginal utility is 3; the total utility is 4,700. Figure 10-1 gives an example of the relationship between marginal and total utility, with slices of pizza. The marginal utilities of the slices of pizza are 14, 12, 10, 8, 6 and so on. The total utility of 5 slices is the sum of the marginal utilities of the first five slices. Marginal utility is calculated in the table in Figure 10-1(a) “between the lines” because it is the utility of changing consumption levels. Figure 10-1(b) shows that total utility increases to some point (8 slices) and then begins to decrease. Figure 10-1(c) shows that marginal utility decreases until it becomes zero (when total utility is at its maximum), and then it becomes negative. Diminishing Marginal Utility Principle of Diminishing Marginal Utility: “As you consume more of a good, after some point, the marginal utility received from each additional unit of a good decreases with each additional unit consumed, other things equal.” This doesn’t mean that you don’t enjoy consuming more; simply that you enjoy additional units less and less. At some point, marginal utility can become negative, but you wouldn’t consume a good if its marginal utility were not positive. Rational Choice and Marginal Utility The term rational means that people prefer more to less and will make choices that give them as much satisfaction as possible, given the budget constraint that they face.

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