GOOD, UTILITY,

Types of Goods - Related to Income

Inferior good: goods for which demand decreases as consumer income rises. Thus, it’s

“income elasticity” will be negative. Example: Inter-city bus service and inexpensive foods

such as, hamburger, and frozen dinners. Normal good: goods for which demand increases as consumer income

rises. Thus, it’s “income elasticity” will be positive. Most goods are normal goods, hence the

name “normal.” Superior good: goods that will tend to make up a larger proportion of

consumption as income rises. As such, they are an extreme form of normal good. Thus, a

superior good’s “income elasticity” will be both positive and greater than 1. A superior good

might be a luxury good that is not purchased at all below a certain level of income, such as a

luxury car.

Consumer Goods and Producer Goods

Goods used for final Consumption are called Consumer Goods

Eg. Food, Home, CarGoods used for production of other goods

are called Producer GoodsEg. Plants, Machinery, Factory

Consumer GoodsGoods which are consumed finallySatisfy customer’s wants directlyThe analysis used to study Consumed

Goods is called Demand/ Revenue analysis

Producer GoodsCan be used to produce Consumer goods or

Producer goods themselves

Arbitrary Distinction

ConsumerGood

Producer Good

Non-durable goods According to Layman, goods perishable

after use are called non-durable goods Later new economics definition came ; non-

durable goods are goods perishable after one use .Eg. Bread, Milk,

Purchased at regular intervals Only current demand to be met

corresponding to current conditions Serviceability not generally required Classified into perishable and non

perishable goods

Perishable and non Perishable goodsPerishable goods are lost after a period of

timeEg. Teaching Services, Doctor’s service, Medicines

Non-perishable goods are not lost after a period of time

Eg. Coal

Durable Goods

Goods being used for a continued period of time. Eg.TV, refrigerator

It either satisfies new demand or replace old set.

Requires special facilities to use. Eg. Car needs Petrol Pump, Refrigerator needs Electricity.

Consumed by more than one person.Eg. TV, Radio

Serviceability is required. So segregation of new demand and service required

Demand analysis is heavily complex

Types of Goods - Related to IncomeOrdinary good: goods for which quantity demanded

increases as the price for the good drops; conversely, quantity demanded decreases as the price for the good increases, (all other things being equal).

Giffen good: a good that will experience an increase in quantity demanded in response to an increase in price. In order to be a true Giffen good, price must be the only thing that changes to prompt a change in quantity demand. Conspicuous consumption (such as found with Veblen goods) is not a factor. The classic example is of inferior staple foods, whose demand is driven by poverty that makes their purchasers unable to afford superior foodstuffs. As the price of the cheap staple rises, consumers can no longer afford to supplement their diet with superior foods, and must consume more of the staple food.

Veblen goods: A good for which demand increases as the price increases, because of its exclusive nature and appeal as a status symbol.

A Veblen good is often also a positional good. Some types of luxury goods, such as high-end wines, jewelry, designer handbags, and luxury cars, are Veblen goods, in that decreasing their prices decreases people's preference for buying them because they are no longer perceived as exclusive or high-status products.

 Similarly, a price increase may increase that high status and perception of exclusivity, thereby making the good even more preferable.

Inferior Goods and Superior GoodsInferior goods are goods whose demand

decreases as income increases. It has negative elasticity of demandEg. A Man who had a recent hike in

salary pay less on cheap dress.Superior gods are goods whose demand

increases as income increases It has high positive elasticity of demand

The curious case of Sir Robert Giffen

In Ireland, the poor people used to consume more potatoes(inferior good) and less meat using their miniscule daily budget

During a famine when cost of potato was increased it was found that the consumption of potato has been increased

This phenomenon defied the law of demand as of then, and was called the Giffen paradox

Luxury goodsIn economics, a luxury good is a good for

which demand increases more than proportionally as income rises.

It has a high elasticity of demandTheir quality, durability or performance that

are remarkably superior to the comparable substitutes Eg. Gold ornaments

Needs good Brand PowerWith time can assume status of normal goods

Prestige goodsGoods which ascribe high status and value

Eg. Antique Collections, Limited Edition Goods

Bought by richest section of people

Complementary Goods A good's demand is increased when the

price of another good is decreased. It has negative cross elasticity of demandEg. Pencil and Eraser consumption in case

of a accounting firm.

PreferencesA household’s preferences determine the

benefits or satisfaction a person receives consuming a good or service.

The benefit or satisfaction from consuming a good or service is called utility.

Total UtilityTotal utility is the total benefit a person gets

from the consumption of goods. Generally, more consumption gives more utility.

2.Utility

Marginal UtilityMarginal utility is the change in total utility

that results from a one-unit increase in the quantity of a good consumed.

As the quantity consumed of a good increases, the marginal utility from consuming it decreases.

We call this decrease in marginal utility as the quantity of the good consumed increases the principle of diminishing marginal utility.

Maximizing Utility

Table 8.1 provides an example of marginal utility schedule.

Marginal utility from a good decreases as the quantity of the good increases.

For example, as the number of movies seen in a month increases, marginal utility from movies decreases.

Maximizing Utility

DefinitionThe law of diminishing marginal utility

describes a familiar and fundamental tendency of human behavior.

“The law of diminishing marginal utility states that, “as a consumer consumes more and more units of a specific commodity, utility from the successive units goes on diminishing”.

Law based upon three facts:The law of diminishing utility is based upon three facts.

Firstly The wants of a man are unlimited but single want

can be satisfied. As a man gets more and more units of a commodity, the desire of his want for that good goes on falling. A point is reached when the consumer no longer wants any more units of that good,

Secondly Different goods are not perfect substitutes for each

other in the satisfaction of various particular wants. Thirdly There is no change in the tastes of the consumers. 

Example Explanation of the Law:

Suppose a person is thirsty and the price of water is zero. He takes one glass of water which gives him great satisfaction. We can say the first glass of water has great utility for him.

He then takes second glass of water. The utility of the second glass of water is less than that of first glass of water. The utility declines because the edge of his thirst has been blunted to a great extent.

If he drinks third glass of water, the utility of the third glass will be less than that of second and so on. The utility goes on diminishing with the consumption of every successive glass of water till it drops down to zero.

It is the position of consumer’s equilibrium or maximum satisfaction.

If the consumer is forced further to take a glass of water, it leads to disutility causing total utility-to decline. The marginal utility will become negative. A rational consumer will stop taking water at the point at which marginal utility becomes negative even if the good is free.

In short, when a good is free, a consumer increases consumption of a good so long its additional units provide him positive marginal utility.

The following table will make the law of diminishing marginal utility more clear.

Units Total Utility Marginal Utility1st glass 20 20

2nd glass 32 12

3rd glass 40 8

4th glass 42 2

5th glass 42 0

6th glass 39 –3

From the above table, It is clear that in a given span of time :-

The first glass of water to a thirsty man gives 20 units of utility.

When he takes second glass of water, the marginal utility goes down to 12 units.

When he consumes fifth glass of water, the marginal utility drops down to zero and if the consumption of water is forced further from this point, the utility changes into disutility (–3).

Here it may be noted that the utility of the successive units consumed diminishes not because they are of inferior in quality than that of others. We assume that all the units of a commodity consumed are exactly alike.

The graph will make the law of diminishing marginal utility more clear.

In the above figure,

OX we measure units of a commodity consumed and OY is shown the marginal utility derived from them. The marginal utility of the first glass of water is called initial utility. It is equal to 20 units. The MU of the 5th glass of water is zero. It is called the satiety point. The MU of the 6th glass of water is negative –3.

Tie MU curve here lies below the OX axis. The utility curve MM falls from left down to the right showing that the marginal utility of the success units of glasses of water is falling.

 When a good is scarce and so priced the consumer will increase the consumption of a commodity up to the extent where his marginal utility for the good equals the price which he has to pay, i.e. Mu = P.

Assumptions of the Law:-

These assumptions are –

Various units of goods are homogenous.There is no time gap between consumption of

the different units.Consumer is rational(So aims at maximization of utility of the

product)Tastes, preferences, and fashion remain

unchanged.

Limitations of the lawCase of intoxicants. (Consumption of liquor defies the law for a short

period. The more a person drinks, the more he likes it)   Application to money. (The law equally holds good for money. It is true that

more money the man has the more greedy)Rare collections. (If there are only two diamonds in the world, the

possession of 2nd diamond will push up the marginal utility.)

Example: collection of the rare stamps and coins

The Law of Equi Marginal Utility:

1. The law of equi marginal utility explains as to how a consumer distributes his limited income among various commodities

2. He will spend his income in such away that the last rupee spent on each of the commodity gives him the same marginal utility.

3. Therefore, this law is known as the Law of Equi-Marginal Utility.

4. In order to get maximum satisfaction out of his limited income, the consumer carefully weighs the satisfaction obtained from each rupee that he spends. If he thinks that a rupee spent on one commodity has greater utility than spending it on another commodity, he will go on spend his money on the former till the satisfaction derived from the last rupee spent in the two cases equal

Assumptions of the Law:1. The utility is cardinally measurable.2. The marginal utility of money remains constant.3. Consumer has a limited amount of income and

he spends the entire amount.4. The wants and habits of the consumer remain

constant.5. The consumer is rational. He tries to get

maximum satisfaction.6. The consumer spends his income in small

quantities while purchasing the commodities.

Illustration of the LawThe law of equi-marginal utility has been stated by

Marshall as follows “If a person has a thing which can be put to several uses, he will distribute it among the uses in such a way that it has the same marginal utility in all”.

The law can be explained with the help of a numerical example suppose a consumer has Rs 5/- which he wants to spend on two types of commodities namely X and Y so that he obtains maximum utility. The following table shows the marginal utilities of successive rupees of income when spends on X and Y.

Figures in the brackets shows as to how the consumer spent his Rs 5/- on two types of commodities. Let us assume that the price of each commodity is one rupee. The consumer starts spending his first rupee on X because the highest marginal utility on X is 10 utils. In the same way he spends his 2nd, 3rd, 4th and 5th rupee on the commodities which gives highest utility. Thus the total utility obtain from X and Y will be 38, i.e. from X (10+8+6=24) and fro.m Y (8+6=14). In this way the consumer spends his entire income on X and Y in such way that the last rupee spent on X and Y gives the same marginal utility. Thus the consumer gets maximum satisfaction

Units Mux Muy

1 10(1) 8 (2)

2 8 (3) 6 (4)

3 6 (5) 4

4 4 2

5 2 0

Total 30 20

Money expenditure and quantity of demand is shown on X axis and the marginal utility derived from the commodities X and Y is shown on Y axis. Marginal utility of X is shown by the curve MUx, and marginal utility of Y is shown by the curve MUy. Marginal utilities of both the commodities are equal at 6 utils. The consumer is in equilibrium by purchasing the combination of 3 units of X and 2 units of Y as he obtains the maximum total utility at that purchase.

Equi-Marginal Utility

0

2

4

6

8

10

12

1 2 3 4 5

Quantity of commoditiesMa

rgina

l Utili

ty

mux

muy

Importance of the Law:1. The law explains as to how a consumer maximizes

his satisfaction from his limited recourses.2. Optimum allocation of the recourses can be

possible by applying this principle. 3. While imposing taxes, the government is cautious

that the marginal sacrifice of all the taxpayers is the same.

4. The law guides an individual in the allocation of his time between ‘work’ and ‘leisure’.