8 UTILITY AND
DEMAND
Introduction
In economics, understanding consumer behavior begins
with the concept of utility—the satisfaction or benefit
derived from consuming goods and services. Utility forms
the foundation of demand. As individuals aim to maximize
their utility within the constraints of their income, their
choices shape market demand patterns. This relationship
between utility and demand is central to microeconomic
analysis, helping explain how changes in preferences,
income, and prices influence consumer decisions.
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After studying this chapter, you will be able to:
Explain the limits to consumption and describe
preferences using the concept of utility
Explain the marginal utility theory of consumer choice
Use marginal utility theory to predict the effects of
changes in prices and incomes and to explain the
paradox of value
Describe some new ways of explaining consumer
choices
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Consumption Choices
The choices you make as a buyer of goods and services
are influenced by many factors, which economists
summarize as
Consumption possibilities
Preferences
Consumption Possibilities
Consumption possibilities are all the things that a
consumer can afford to buy.
We’ll study the consumption possibilities of Lisa, who buys
only two goods: movies and soda.
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Consumption Choices
A Consumer’s Budget Line
Consumption possibilities are limited by income, the price of a
movie, and the price of soda.
When Lisa spends all of her income, she reaches the limits of her
consumption possibilities.
Lisa’s budget line shows the limits of her consumption
possibilities.
Budget Line: A straight line showing all combinations of two goods that a consumer can
afford with a given income and prices.
Points on the Line: Represent combinations where the consumer spends all their income.
Points Inside the Line: Affordable but do not use all income.
Points Outside the Line: Unattainable with current income and price
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Consumption Choices
Lisa has $40 to spend, the price of a movie is $8 and the
price of soda is $4 a case.
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Consumption Choices
Lisa can afford any of
the combinations at
the points A to F.
Some goods are indivisible
and must be bought in whole
units at the points marked.
You can't buy half a car or
0.3 of a refrigerator
Other goods are divisible
goods and can be bought in
any quantity. You can buy 1.5
liters of milk or 0.75 kilograms of rice
The line through points A to
F is Lisa’s budget line.
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Consumption Choices
The budget line is a
constraint on Lisa’s
consumption choices.
Lisa can afford any
point on her budget line
or inside it.
Lisa cannot afford any
point outside her budget
line.
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Consumption Choices
Changes in Consumption Possibilities
Consumption possibilities change when income or prices
change.
A rise in income shifts the budget line outward and leaves
its slope unchanged. Consumption possibilities expand.
A rise in a price changes the slope of the line and shrinks
consumption possibilities (because the consumer can now
afford less of that good for the same income).
The budget line shows what is possible (all points on, or
inside the budget line); the consumer's preferences
determine which possibility is chosen.
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Consumption Choices
Preferences
The choice that Lisa makes depends on her preferences
—her likes and dislikes.
Her benefit or satisfaction from consuming a good or
service is called utility.
Total Utility
Total utility is the total benefit a person gets from the
consumption of goods.
Generally, more consumption gives more total utility.
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Consumption Choices
Table 8.1 shows Lisa’s total
utility schedule.
Total utility from a good
increases as the quantity of
the good increases.
For example, as Lisa sees
more movies in a month, her
total utility from movies
increases.
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Consumption Choices
Marginal Utility
Marginal utility from a good is the change in total utility that
results from a unit-increase in the quantity of the good consumed.
As the quantity consumed of a good increases, the marginal utility
from it decreases.
We call this decrease in marginal utility as the quantity of the good
consumed increases the principle of diminishing marginal utility.
Imagine a student is very hungry and starts eating slices of pizza:
1st slice: Extremely satisfying — high marginal utility.
2nd slice: Still enjoyable, but slightly less satisfying than the first.
3rd slice: Enjoyment starts to decline — the student feels full.
4th slice: The student may feel uncomfortable — marginal utility could even
become negative.
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Consumption Choices
Table 8.1 shows how to
calculate Lisa’s marginal
utility from her total utility.
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.
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Consumption Choices
Figure 8.2(a) shows Lisa’s
total utility and marginal
utility from soda.
Total utility from soda
increases as more soda is
consumed.
The bars along the total
utility curve show the extra
total utility (marginal utility)
from each additional case of
soda.
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Consumption Choices
Graphing Liz’s Utility
Schedule
Figure 8.2(b) illustrates
diminishing marginal utility.
As Lisa increases the
quantity of soda she drinks,
her marginal utility from soda
diminishes.
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Utility-Maximizing Choice
The key assumption is that the household chooses the
consumption possibility that maximizes total utility.
A Spreadsheet Solution
The direct way to find the utility-maximizing choice is to
make a table in a spreadsheet and do the calculations.
Find the just-affordable combinations
Find the total utility for each just-affordable combination
The utility-maximizing combination is the consumer’s
choice
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Utility-Maximizing Choice
Find the Just-Affordable
Combinations
Lisa has $40 a month to
spend on movies and soda.
The price of a movie is $8
and the price of soda is
$4 a case.
Each row of Table 8.2
shows a combination of
movies and soda that
exhausts Lisa’s $40.
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Utility-Maximizing Choice
Find the Total Utility for
Each Just-Affordable
Combination
When Lisa sees 1 movie
and drinks 8 cases of
soda a month, …
she gets 50 units of utility
from the 1 movie and 248
units of utility from the 8
cases of soda.
Her total utility is 298
units.
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Utility-Maximizing Choice
Consumer Equilibrium
Lisa chooses the
combination that gives her
the highest total utility.
Lisa maximizes her total
utility when she sees
2 movies and drinks 6
cases of soda a month.
Lisa gets 90 units of utility
from the 2 movies and
315 units of utility from the
6 cases of soda.
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Utility-Maximizing Choice
Consumer equilibrium (the
point at which a consumer maximizes
their total utility given their budget
constraint. ) is
the situation in
which Lisa has allocated all
of her available income in
the way that maximizes
her total utility, given the
prices of movies and soda.
Lisa’s consumer
equilibrium is 2 movies
and 6 cases of soda a
month.
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Utility-Maximizing Choice
A more natural way of finding the consumer equilibrium is
to use the idea of choices made at the margin.
Choosing at the Margin
Having made a choice, would spending a dollar more or a
dollar less on a good bring more total utility?
Marginal utility is the increase in total utility that results
from consuming one more unit of the good.
The marginal utility per dollar is the marginal utility from
a good that results from spending one more dollar on it.
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Example: Apples vs. Oranges
Suppose a consumer has $10 and is choosing between
apples and oranges:
Apples give 10 units of utility per dollar.
Oranges give 6 units of utility per dollar.
The consumer should spend more on apples, because
each dollar spent gives more satisfaction. As they buy
more apples, the marginal utility of apples
decreases (due to diminishing marginal utility). Eventually,
it may drop to 6 units per dollar — equal to oranges.
At that point, the consumer reaches equilibrium
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Utility-Maximizing Choice
Marginal Utility per Dollar
The marginal utility per dollar equals the marginal utility
from a good divided by its price.
Calling the marginal utility from movies MUM and the price
of a movie PM, then the marginal utility per dollar from
movies is MUM/PM .
Calling the marginal utility of soda MUS and the price of
soda PS , then the marginal utility per dollar from soda is
MUS/PS.
By comparing MUM/PM and MUS/PS , we can determine
whether Lisa has allocated her budget in the way that
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Utility-Maximizing Choice
Utility-Maximizing Rule
A consumer’s total utility is maximized by following the
rule:
Spend all available income
Equalize the marginal utility per dollar for all goods
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Utility-Maximizing Choice
Lisa’s Marginal Calculation
Figure 8.3 shows why the utility-maximizing rule works.
Each row of the table (on the next slide) shows a just-
affordable combination.
Start by choosing a row—a point on the budget line.
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Utility-Maximizing Choice
In row B, MUS/PS < MUM/PM.
Lisa spends too much on
soda and too little on
movies.
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Utility-Maximizing Choice
If Lisa spends less on
soda and more on movies,
MUS increases and
MUM decreases.
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Utility-Maximizing Choice
In row D, MUS/PS > MUM/PM.
Lisa spends too little on
soda and too much on
movies.
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Utility-Maximizing Choice
If Lisa spends more on
soda and less on movies,
MUS decreases and
MUM increases.
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Utility-Maximizing Choice
In row C,
MUS/PS = MUM/PM.
Lisa is maximizing utility.
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Real-Life Example
Budgeting your Monthly Expenses
Imagine you receives a monthly allowance or part-time income of QAR 5,000.
You need to decide how to spend it on essentials like:
Food
Car and gas
Mobile data
Entertainment
Savings
The chapter and Economics help you answer questions like:
How much should I spend on each item to maximize my satisfaction
(utility)?
If I spend more on entertainment, what do I give up (opportunity cost)?
How do price changes (e.g., gas price increase) affect my choices?
By applying concepts like utility, opportunity cost, and budget constraints, you
learn to make smarter decisions — not just in theory, but in your daily lives.
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Wrapping Up Utility and Demand
Today, we explored how consumers make choices to maximize their satisfaction,
or utility, within the limits of their income. We learned that:
•Utility is the measure of satisfaction from consuming goods and services.
•Marginal utility decreases as consumption increases — a key principle in
understanding consumer behavior.
•Consumer equilibrium is reached when the marginal utility per dollar spent is
equal across all goods.
•Changes in prices affect consumption possibilities and shift the budget line.
Understanding these concepts helps us analyze real-world consumer decisions
and market demand patterns. As you continue studying economics, keep
thinking at the margin — it’s where the most insightful decisions are made.
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