UNIT 4 CONSUMER BEHAVIOUR:

CARDINAL APPROACH
Structure
4.0 Objectives
4.1 Introduction
4.2 Concept of Utility
4.2.1 What is Utility?
4.2.2 Relationship between Want, Utility, Consumption and Satisfaction
4.2.3 Measurement of Utility

4.3 Some Basic Assumptions about Preferences

4.3.1 Assumptions about Consumer Preferences

4.4 Cardinal Utility Analysis

4.5 Law of Diminishing Marginal Utility
4.5.1 Exceptions to the Law/Limitations of the Law
4.5.2 Criticism of the Law

4.6 Consumer Equilibrium through Utility Analysis

4.6.1 Determination of Consumer Equilibrium

4.7 Derivation of Demand Curve with the Help of Law of Diminishing

Marginal Utility
4.8 Consumer Surplus
4.9 Critical Evaluation of Cardinal Utility Analysis
4.10 Let Us Sum Up
4.11 References
4.12 Answers or Hints to Check Your Progress Exercises

4.0 OBJECTIVES
After completion of this unit, you will be able to:
• explain the concept of utility;
• analyse and use cardinal utility approach for measurement of utility;
• explain Law of Diminishing Marginal utility;
• describe consumer equilibrium with the help of law of equi-marginal
utility;
• distinguish between cardinal and ordinal utility approaches; and
• list the assumptions of consumer preferences.

*Dr. Vijeta Banwari, Assistant Professor in Economics, Maharaja Surajmal Institute, New Delhi. 73
Theory of
Consumer
4.1 INTRODUCTION
Behaviour
In previous units, we have understood the concept of demand and supply, their
determinants, and elasticity of demand and supply etc. We have also applied
the concepts of demand and supply in practice i.e. equilibrium, determination
of price and quantity, rationing and allocation of scarce goods, minimum wage
legislation and arbitrage etc. In this and subsequent unit, we shall examine the
theory of consumer behaviour. Consumer behaviour has always been a subject
of curiosity and research. Researchers have been trying to understand and
predict consumer behaviour ever since the commencement of trade. However,
relevance of this subject has increased over the time. With global markets and
more informed customers today, success of business is entirely dependent on
its understanding of consumer behaviour. Traditional businesses are getting
obsolete every day and new businesses based on needs of consumers (or
utility) are evolving. Increased internet penetration has changed the concept of
market. Businesses are increasingly talking about value creation rather than
mere product creation.
The concept of value creation is based on the concept of utility. Consumer
values a product only if it has ‘utility’ for him. Thus, the concept of utility has
become extremely relevant today. It is guiding marketing team across the globe
in designing business and marketing the company in a way that is likely to
attract the maximum number of customers and maximise sales revenues.
Let us begin to state the concept of utility and how has it evolved.

4.2 CONCEPT OF UTILITY

Utility is the basis of consumer demand. The consumers demand a commodity
because they desire or expect to derive utility from that commodity. As
discussed above, the concept of market, interaction between consumer and
producer has evolved in present times. Today, a consumer is more informed
about the choices available to him and someone somewhere is trying to
produce a good/service in order to provide utility to the customer. New
businesses, like an app to book a cab, maid, grocery, medicine, beauty service
etc. which have evolved in present time are successful because they provide
high utility to their customers.

4.2.1 What is Utility?

Utility is a psychological phenomenon. It is a feeling of satisfaction, pleasure
or well-being experienced by the consumer from the consumption or
possession of the commodity or availing of a service. In this sense, it is a
subjective or relative concept i.e. level of utility derived from a product differs
from person to person. For example, meat has no utility for vegetarians.
Utility of a product can be ‘absolute’ in the sense that the want satisfying
power is ingrained or embeded in it. For example, pen has its own utility
whether a person can write or not. However, utility is considered as
‘subjective’ in consumer analysis because a consumer will demand a good only
if that good holds utility for her. Utility not only varies from person to person
but also from time to time, at different level of consumption and at different
moods of a consumer. The most basic example to understand this concept is
food. If a person is not hungry, even her favourite food will not have any utility
74 for her at that point of time.
Based on this understanding, marketing concepts have also evolved over the Consumer Behaviour :
time. Advertisers target now consumers on the basis of their past purchases, Cardinal Approach
interests, likes/dislikes, sites they visit. Customers are often offered customised
coupons for the product/service that might hold ‘utility’ for them.

4.2.2 Relationship between Want, Utility, Consumption and

Satisfaction
Want of the consumer is the basis of understanding her behaviour. A consumer
selects a commodity based on its want satisfying power. Consumption of the
commodity leads to satisfaction of wants. Thus want, utility, consumption and
satisfaction are related in following manner:
Want Selection of Consumption of Getting utility in the sense
commodity the commodity of satisfaction of the want

Following points can be noted about utility:

a) Utility is a want satisfying power of a commodity
b) Utility varies from person to person
c) It varies from time to time, at different level of consumption and at
different moods of a consumer.
There are three concepts related to utility:
1) Initial Utility- The utility derived from the first unit of a commodity is
called initial utility. For example: utility obtained from consumption of
first roti is called initial utility.
2) Total Utility- The utility derived by a person from the total number of
units of a commodity consumed by her is called total utility.
i.e. TUn= U1+ U2=U3=….Un
3) Marginal Utility- It means addition made to total utility by consuming
an additional unit.
It can be measured with the help of following formula:
MUn= TUn –TUn-1
Where: MUn = Marginal utility of nth unit
TUn = Total utility of n units
TUn-1 = Total utility of n – 1 units or one unit less than the total no. of
units
Let us understand the concept with the help of Table 4.1 and Fig. 4.1.

75
Theory of Table 4.1: Relationship between Total utility (TU) and Marginal utility
Consumer (MU)
Behaviour
Units of a Good Total Utility Marginal Utility
Consumed (TU) (MU)
1 6 6
2 10 4
3 12 2
4 12 0
5 10 -2
6 6 -4

14 12 12
12
Marginal utility and Total Utility

10 10
10
8 6 6
6
4
2
0
-2 0 1 2 3 4 5 6 7
-4
-6
Units of commodity

Marginal utility (MU) Total utility (TU)

Fig. 4.1: Relationship between Total utility (TU) and Marginal utility (MU)

In Fig. 4.1, units of commodity are measured along x axis and utility is
measured along y axis. Upto 3rd unit the total utility is increasing but marginal
utility is diminishing but is positive. When a consumer consumes 4th roti, the
total utility is maximum and the marginal utility is zero. Consumer is getting
maximum satisfaction at this point. If a consumer consumes more than 4 units,
total utility will diminish and the marginal utility will be negative. This is also
called Law of diminishing Marginal Utility, which is discussed in detail in
Section 4.4.

4.2.3 Measurement of Utility

The concept of measurement of utility has evolved over the time. The classical
economists viz Jeremy Bentham, Menger, Walras etc. and neoclassical
economists like Marshall believed that utility is cardinally or quantitatively
measurable like height, weight etc. The belief resulted in Cardinal Utility
Approach. The exponents of cardinal utility analysis regard utility to be a
cardinal concept. According to them, a person can express utility or satisfaction
he derives from the goods in the quantitative cardinal terms. Jeremy Bentham
(1748–1832), the founder of Utilitarian school of ethics coined a psychological
unit of measurement called ‘utils’. Thus, a person can say that he derives utility
equal to 10 utils from the consumption of a unit of good A, and 20 utils from
the consumption of a unit of good B. Moreover, the cardinal measurement of
utility implies that a person can compare utilities derived from goods in respect
76
of size, that is, how much one level of utility is greater than another. Consumer Behaviour :
According to Marshall, marginal utility is actually measurable in terms of Cardinal Approach
money and money is the measuring rod of utility. This approach will be
discussed in detail in Section 4.4. The modern economists like J.R Hicks, Allen
are of view that utility is not quantitatively measurable but can be compared or
ranked. This is known as Ordinal concept of utility. Modern Economists hold
that utility being a psychological phenomenon, cannot be measured
quantitatively, theoretically and conceptually. However, a person can
introspectively express whether a good or service provides more, less or equal
satisfaction when compared to one another. In this way, the measurement of
utility is ordinal, i.e. qualitative, based on the ranking of preferences for
commodities. For example, Suppose a person prefers tea to coffee and coffee
to milk. Hence, he or she can tell subjectively, his/her preferences, i.e. tea >
coffee > milk. Ordinal Utility approach of measurement of utility is discussed
in detail in the next unit.
Check Your Progress 1
1) Explain the relationship between total utility and marginal utility.
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2) Calculate Marginal utility in following table:

Ice Creams Consumed Total Utility Marginal Utility

1 20
2 36
3 46
4 50
5 50
6 44

4.3 SOME BASIC ASSUMPTIONS ABOUT

PREFERENCES
One of the basic questions addressed in microeconomics is how a consumer
with limited income takes decision about which good/service to buy. As
discussed above, consumer behaviour has gained great relevance today and
companies are spending huge amount to understand consumer preferences.
Success of business has always been dependent on its understanding of
consumer behaviour. But now since the world is more connected than ever
through internet, consumers have large number of options. It has become
imperative for companies to analyse consumer choices, preferences and design
their goods/services accordingly.
Economists have identified three basic steps to understand consumer
behaviour:

77
Theory of 1) Consumer Preferences: First step is to identify consumer preferences.
Consumer This can be done graphically or algebraically also. Behaviour is based on
Behaviour preferences i.e. likes, dislikes of the consumers. Thus, it is important to
identify ‘what gives value to the consumer’. We live in an information
age and today. Companies follow their customers online, keep a track of
sites they visit, products they buy etc. in order to identify their
preferences. Social networking sites have become popular data source to
identify preferences.
2) Budget Constraints: This is next important aspect. Prices of goods and
paying capacity of consumer has strong influence on his behaviour.
Through online tracking, companies today are not only able to identify
consumer preferences alone, but also their paying capacity and budget
constraints. Additional discounts, cash back schemes, EMI options etc.
are offered to the customer these days in order to ease their budget
constraint.
3) Consumer choices: Final step to understand consumer behaviour is
consumer choices. Given preferences and limited income, consumer
chooses the combination of goods which maximise their satisfaction.
With markets becoming global, consumers have large number of choices
available these days. But final demand for a good will be dependent on
combination of factors: their preferences, value offered by the product
and budget constraint.
4.3.1 Assumptions about Consumer Preferences
As discussed above, the theory of consumer behaviour is based on consumer
preferences. For better understanding of consumer behaviour with the help of
consumer preferences, economists usually make following assumptions about
consumer preferences:
a) Completeness: Preferences are assumed to be complete i.e. any two
different bundles of goods can be compared. A consumer either prefers
one basket over other or is indifferent between two baskets.
Mathematically, (a1, a2) ≥ (b1, b2) or
(a1, a2) ≤ (b1, b2) or
Both
b) Transitivity: Transitivity means that if a consumer prefers X over Y and
Y over Z then the consumer also prefers X over Z. Transitivity is a
necessary assumption to ensure consumer consistency.
c) More is always preferred over less: Consumer is rational and knows
that greater utility can be derived by consuming more quantity of a
commodity. Thus, he always prefers more quantity over less.
Check Your Progress 2
1) What are the basic assumptions about consumer preferences?
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78 .....................................................................................................................
2) How does consumer preferences affect consumer behaviour? Consumer Behaviour :
Cardinal Approach
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4.4 CARDINAL UTILITY ANALYSIS

Cardinal utility Analysis was mainly given by neoclassical economists like
Jevons, Dupuit, Menger, Walras and Pigou etc. The exponents of this approach
regards utility as cardinal concept. In other words, they hold that utility is a
measurable and quantifiable entity. For example, According to cardinal utility
approach, if a person is drinking a glass of water, it will be possible for him to
assign some numerical value say 10 utils or 20 utils to the utility derived from
it.
This approach is based on following assumptions:
1) The cardinal measurement of utility- Utility of any commodity can be
measured in units called ‘utils’.
2) Utilities are additive i.e. total utility can be calculated by measuring
utility derived from all the units of a commodity consumed.
3) Utility is independent i.e. not related to the amounts of other commodities
purchased by the consumer. Further, it is also assumed that it is not
affected by utilities of other individuals.
4) Marginal utility of money remains constant: When a person purchases
more of a good, the amount of money diminishes and marginal utility of
remaining money may increase. But in this approach, marginal utility of
money is treated constant. This assumption is important as cardinalists
have used money as a measure of utility and it is necessary to keep the
measuring rod of utility as fixed.

4.5 LAW OF DIMINISHING MARGINAL UTILITY

Law of Diminishing Marginal Utility is one of the most fundamental law of
utility analysis. It explains the relationship between utility and quantity of a
commodity. This law states that after sufficient quantity of a commodity is
consumed, the utility derived from each successive unit decreases,
consumption of all other commodities remaining same. Let us take an example
to illustrate this law. For example, If a person is hungry, the first roti he
consumes will have high utility for him as it will give him high level of
satisfaction. As he keeps on consuming more and more roties, utility derived
from each successive unit will go on decreasing. After a point of time, when
person is satisfied, he will not be able to eat more. The utility will drop to zero
here. If the consumption of roti is continued further, a person would get
negative utility or disutility. This can be illustrated with the help of following
table:

79
Theory of Table 4.2: Diminishing Marginal Utility
Consumer
Behaviour
No. of Roti Marginal Utility (MU)
1 10
2 8
3 5
4 3
5 0
6 -2

Fig. 4.2: Diminishing Marginal Utility

It can be noted from the above table and diagram, that the utility of first roti is
very high i.e. 10 utils. The utilities of 2nd, 3rd, 4th roti falls to 8, 5 and 3 utils
respectively. 5th roti gives zero utility, after which each successive roties starts
giving negative utility.

4.5.1 Exceptions to the Law/ Limitations of the Law

The law of Diminishing Marginal utility does not apply in following cases:
1) Small initial unit: The law is not applicable when the initial units of
commodity are of very small size. For example, drinking water with a
spoon. In such cases, initially utility derived from additional units will go
on increasing and the law may not operate for sometime. It is only after a
stage in consumption is reached that marginal utility begins to diminish.
2) Rare and curious things like rare paintings, gold and diamond
jewellery: The law does not apply in such cases because collection of
more and more units usually give more satisfaction to the
collector/consumer.

4.5.2 Criticism of the Law

Law of Diminishing Marginal utility has been criticised by modern economists
on following grounds:
1) Measurement of utility is not possible: The major criticism of this
80 approach is that it is not possible to measure utility in cardinal numbers.
 Utility is a psychological phenomenon and thus it is not possible to Consumer Behaviour :
measure it in quantifiable terms. In real life, we can only describe utility Cardinal Approach
of a product in words.
2) Marginal utility of money does not remain constant: Cardinal
economists believe that marginal utility of money remains constant
throughout. However, when a person uses money, stock of money
reduces leading to increase in utility of remaining stock.
3) Utility is not always independent: Sometimes utility of one commodity
is affected by other commodities. Many times, consumer prefers to
consume series of related goods. For example, A consumer may prefer to
consume biscuits or pakoda along with tea.
4) Unrealistic assumptions: The law is based on various unrealistic
assumptions. It assumes no change in fashion, taste, income, preferences
of a customer. But in real life, environment is extremely dynamic and so
are taste, fashion etc. With new products having advanced features being
launched so frequently, taste and preferences of customers are also
changing frequently. Thus, this law may not operate in present dynamic
times, at least not in the same form it was believed to operate, say one
century ago.
Check Your Progress 3
1) Why does marginal utility diminished?
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2) What does happen to marginal utility at a point when total utility is
maximum?
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4.6 CONSUMER EQUILIBRIUM THROUGH

UTILITY ANALYSIS
Consumer Equilibrium is a situation wherein a consumer gets maximum
satisfaction out of his limited income and has no tendency to change his
existing expenditure pattern. A consumer is considered to be extremely
satisfied when he allocates his income in such a way that the last rupee spent
on each commodity yields the same level of utility. The concept of consumer
equilibrium can be examined under one-commodity model and multi-
commodity model.
Consumer equilibrium through utility analysis is based on following set of
assumptions:

81
Theory of 1) Consumer is rational: This is one of the basic assumption of the law.
Consumer Consumer is rational i.e. he measures, compares and chooses the best
Behaviour option in order to maximise his utility.
2) Cardinal measurement of utility: Utility can be measured in
quantifiable terms.
3) Marginal utility of money is constant: It is assumed that utility is
measured in terms of money and utility of money does not change.
4) Fixed income and prices: It is assumed that income of the consumer and
prices of goods remain constant.
5) Constant tastes and preferences: It is assumed that taste and
preferences of the consumer remain same.

4.6.1 Determination of Consumer Equilibrium

As discussed above, Consumer equilibrium can be examined under two cases:
1) Consumer equilibrium-One commodity case
Suppose a consumer with fixed income consumes a single commodity x. He
will continue his consumption till a point where marginal utility that he
derived from consumption of a unit of commodity is greater than marginal
utility of money spent on purchasing that unit. If the marginal utility of
commodity x (MUx) is greater than the marginal utility of money (MUm), then
a consumer will exchange his money for a commodity. Consumer will keep
on consuming and spending his money so long as (MUx)>Px(MUm) where Px
is the Price of commodity x and MUm is 1(constant), Thus a utility
maximising consumer will be in equilibrium where
MUx=Px

Fig. 4.3: Consumer equilibrium in case of single commodity

Let us understand the concept with the help of an example. Suppose, the
consumer wants to buy a good x costing Rs. 10 per unit. Marginal utility
derived from each successive unit (in utils is determined and is given in Table
4.3 (It is assumed that 1 util = Re. 1, i.e. MUm = Re. 1).

82
 Table 4.3: Consumer Equilibrium in case of Single Commodity Consumer Behaviour :
Cardinal Approach
Unit of Price of Marginal Difference Remarks
‘x’ ‘x’ Utility (MU) between
MU and
(Px) in Utils Px
1 10 18 8 Since MUx>Px
Consumer will
2 10 16 6 increase
3 10 12 2 consumption

4 10 10 0 Consumer
equilibrium
MUx=Px
5 10 8 -2 Since MUx<Px
Consumer will
6 10 0 -10 not buy any
7 10 -2 -12 more units

2) Consumer equilibrium in Multi-commodity case:

Consumer equilibrium in single commodity is unrealistic model in the sense
that in real life, consumer consumes a large number of commodities. This
model deals with the equilibrium in case of many commodities. This model
works under the assumption of limited income of the consumer and
diminishing marginal utility of commodities. Thus, utility maximising
consumer will first spend money on commodity which yield highest utility,
then the second highest and so on. Finally, a consumer will reach equilibrium
when the last rupee he spent on different commodities will yield equal level of
utility.
This case of multi-commodities is known as Law of Equi-Marginal Utility, a
consumer having choices of multiple goods distribute their limited income in
such a way that the last rupee spent on each commodity yields equal marginal
utility. Suppose a customer consumes only two goods x (with price Px) and y
(with price Py). Thus he will try to maximise his utility by equating his
marginal utility and prices.
MUx=Px (MUm)
MUy=Py (MUm)
Given these conditions, a consumer will be in equilibrium when:
MUx/ Px (MUm) = MUy/ Py (MUm)
Or
MUx/ Px = MUy/Py (because MU of each unit of money is assumed to be
constant at 1)
Two commodity case can be generalised for multi-commodity case. Suppose a
customer consumes various goods, he will be in equilibrium when:
MUx/ Px = MUy/ Py= MUc/ Pc= ……MUz/ Pz 83
Theory of Diagrammatically, equilibrium is achieved at a point when MUx/Px= MUy/Py
Consumer
Behaviour

Fig. 4.4: Consumer equilibrium in multi commodity case

Let us understand the law with the help of an example: Suppose, total money
income of a consumer is 5 which he wants to spend on two goods ‘x’ and ‘y’.
Both these commodities are priced at Re. 1 per unit. Table 4.4 presents
marginal utility which consumer derives from various units of the two
commodities.
Table 4.4: Consumer Equilibrium in case of multi-commodity
Unit MU Derived from Good X MU Derived from Good Y
(in Utils) (in Utils)
1 12 9
2 10 8
3 8 6
4 6 4
5 4 2

It can be noted from Table 4.4 that the consumer will spend first and second
rupee on commodity ‘x’, which will provide him utility of 12 and 10 utils
respectively. The third rupee will be spent on commodity ‘y’ to get utility of 9
utils. Fourth and fifth rupee will be spent on X and Y respectively. To reach the
equilibrium, consumer should purchase that combination of both the goods,
when:
a) MU of last rupee spent on each commodity is same; and

84 b) MU falls as consumption increases.

It happens when consumer buys 3 units of ‘x’ and 2 units of ‘y’ because: Consumer Behaviour :
Cardinal Approach
a) MU from last rupee (i.e. 5th rupee) spent on commodity y gives the same
satisfaction of 8 utils as given by last rupee (i.e. 4th rupee) spent on
commodity x; and
b) MU of each commodity falls as consumption increases.
The total satisfaction of 47 utils will be obtained when consumer buys 3 units
of ‘x’ and 2 units of ‘y’. It reflects the state of consumer’s equilibrium. If the
consumer spends his income in any other order, total satisfaction will be less
than 47 utils.
Check Your Progress 4
1) Given the price of good, how will a consumer decide as to how much
quantity of the good to buy? Use utility analysis.
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2) A consumer consumes only two goods – x and y. State and explain the
conditions of consumer equilibrium using utility analysis.
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4.7 DERIVATION OF DEMAND CURVE WITH

THE HELP OF LAW OF DIMINISHING
MARGINAL UTILITY
We have learned in Unit 2 that the demand curve or law of demand shows the
relationship between price of a good and its quantity demanded. Marshall
derived the demand curves for goods from their utility functions.
Marshall assumed the utility functions of different goods to be independent of
each other. In other words, Marshallian technique of deriving demand curves
for goods from their utility functions rests on the hypothesis of additive utility
functions.
Dr. Alfred Marshall derived the demand curve with the help of law of
diminishing marginal utility. The law of diminishing marginal utility states that
as the consumer purchases more and more units of a commodity, utility that he
derives from successive units goes on decreasing.
A rational consumer, while purchasing a commodity compares the price of the
commodity which he has to pay with the utility he receives from it. So long as
the marginal utility of a commodity is higher than its price (MUx >Px), the
consumer would demand more and more units of it till its marginal utility is
equal to its price MUx = Px or the equilibrium condition is established.

85
Theory of In other words, as the consumer consumes more and more units of a
Consumer commodity, its marginal utility goes on diminishing. So it is only at a
Behaviour diminishing price at which the consumer would like to demand more and more
units of a commodity. Derivation of demand curve with the help of law of
diminishing marginal utility is presented in Fig. 4.5.

Fig. 4.5: Derivation of demand curve with the help of law of diminishing marginal utility
In Fig. 4.5, the MUx is negatively slopped. It shows that as the consumer
acquires larger quantities of good X, its marginal utility diminishes.
Consequently at diminishing price, the quantity demanded of the good X
increases as is shown in the second Fig. of 4.5.
At X1, quantity of the marginal utility of a good is MU1. This is equal to P1 by
definition. Thus, consumer demands OX1 quantity of the commodity at
P1 price. In the same way X2 quantity of the good is equal to P2. Here at
P2 price, the consumer will buy OX2 quantity of commodity. At X3 quantity the
marginal utility is MU3, which is equal to P3. At P3, the consumer will buy
OX3 quantity and so on.
It can be concluded that as the purchase of the units of commodity X are
increased, its marginal utility diminishes. So at diminishing price, the quantity
demanded of good X increases. The rational supports the notion of down
slopping demand curve that when price falls, other things remaining the same,
the quantity demanded of a good increases and vice versa.

4.8 CONSUMER SURPLUS

The concept of consumer surplus was first formulated by Dupuit in 1844 to
measure social benefits of public goods such as canals, bridges, national
highways. Marshall further refined and played a significant role in providing it
a theoretical structure in his book ‘Principles of Economics’ published in 1890.
Marshall’s concept of consumer’s surplus was based on the cardinal
measurability and interpersonal comparisons of utility. According to him,
consumer’s surplus is the difference between what ‘one is willing to pay’ and
‘what one actually pays’ to acquire a particular good. Concept of consumer’s
surplus is a very important concept in economic theory, especially in theory of
demand and welfare economics. It is also very useful in formulation of
economic policies such as taxation by the Government.
The quintessence of the concept of consumer’s surplus is that people generally
86 get more utility from the consumption of goods than the price they actually pay
for them. This extra satisfaction, which the consumers obtain, from buying a Consumer Behaviour :
good has been called consumer’s surplus. Cardinal Approach

The concept of consumer’s surplus is derived from the law of diminishing

marginal utility. As we purchase more units of a good, its marginal utility goes
on diminishing. It is because of the diminishing marginal utility that
consumer’s willingness to pay for additional units of a commodity declines as
he has more units of the commodity.
The measurement of consumer surplus from a commodity from the demand or
marginal utility curve is illustrated in Fig. 4.6. In the figure, quantity of a
commodity is measured along the X-axis, the marginal utility (or willingness to
pay for the commodity) and the price of the commodity are measured on the Y-
axis.
DD' is the demand or marginal utility curve which is sloping downward,
indicating that as the consumer buys more units of the commodity, marginal
utility derived from the additional units of the commodity falls.
If OP is the price that prevails in the market, then the consumer will be in
equilibrium when he buys OM units of the commodity, since at OM units,
marginal utility from a unit of the commodity is equal to the given price OP.
The Mth unit of the commodity does not yield any consumer’s surplus to the
consumer since this is the last unit purchased and for this price paid is equal to
the marginal utility which indicates the price that he is prepared to pay rather
than go without it. But for the units before Mth unit, marginal utility is greater
than the price and therefore, these units yield consumer’s surplus to the
consumer. The total utility of a certain quantity of a commodity to a consumer
can be known by summing up the marginal utilities of the various units
purchased.

Fig. 4.6: Consumer Surplus

In Fig. 4.6, the total utility derived by the consumer from OM units of the
commodity will be equal to the area under the demand or marginal utility curve
up to point M. That is, the total utility of OM units in Fig. 4.6 is equal to
ODSM.
In other words, for OM units of the good the consumer will be prepared to pay
the sum equal to Rs. ODSM. But given the price equal to OP, the consumer
will actually pay the sum equal to Rs. OPSM for OM units of the good. It is
thus clear that the consumer derives extra utility equal to ODSM minus OPSM 87
Theory of = DPS, which has been shaded in Fig. 4.6. If market price of the commodity
Consumer rises above OP, the consumer will buy fewer units of the commodity than OM.
Behaviour As a result, consumer’s surplus obtained by him from his purchase will
decline. On the other hand, if price falls below OP, the consumer will be in
equilibrium when he is purchasing more units of the commodity than OM. As a
result of this, the consumer’s surplus will increase. Thus, given the marginal
utility curve of the consumer, the higher the price, the smaller the consumer’s
surplus and the lower the price, the greater the consumer’s surplus.

4.9 CRITICAL EVALUATION OF CARDINAL

UTILITY ANALYSIS
Cardinal utility analysis of demand has been criticised by modern economists
on following grounds:
1) Cardinal measurability of utility is impractical:
Cardinal utility analysis of demand is based on the assumption that utility can
be measured in absolute, objective and quantitative terms. But in actual
practice utility cannot be measured in such quantitative or cardinal terms. Since
utility is a psychological phenomenon and subjective feeling, it cannot be
measured in quantitative terms. In reality, consumers are only able to compare
the satisfactions derived from various goods or various combinations of the
goods. In other words, in the real life consumer can state only whether a good
or a combination of goods gives him more or less, or equal satisfaction as
compared to another. Thus, economists like J.R. Hicks are of the opinion that
the assumption of cardinal measurability of utility is unrealistic and therefore it
should be given up.
2) Wrong assumption of independent utilities:
Cardinal Utility analysis also assumes that utilities derived from various goods
are independent. This means that the utility which a consumer derives from a
good is the function of the quantity of that good only. In other words, the
assumption of independent utilities implies that the utility which a consumer
obtains from a good does not depend upon the quantity consumed of other
goods. On this assumption, the total utility which a person gets from the whole
collection of goods purchased by him can be calculated as sum of the separate
utilities of various goods. In other words, utility functions are additive. But in
the real life this is not so. In actual life the utility or satisfaction derived from a
good depends upon the availability of some other goods which may be either
substitutes for or complementary with each other. For example, the utility
derived from a pen depends upon whether ink is available or not. Similarly,
utility of tea may increase if accompanied by biscuits. It is, thus, clear that the
utilities derived from various goods are interdependent, that is, they depend
upon each other.
3) Assumption of constant marginal utility of money is not true:
An important assumption of cardinal utility analysis is that when a consumer
spends varying amount on a good or various goods or when the price of a good
changes, marginal utility of money remains constant. But in actual practice,
this is not correct. As a consumer spends his money income on the goods,
money income left with him declines.
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With the decline in money available to the consumer, the marginal utility of Consumer Behaviour :
remaining money rises. Further, when price of a commodity changes, the real Cardinal Approach
income of the consumer also changes. With this change in real income,
marginal utility of money will change and this would have an effect on the
demand for the good in question, even though the total money income
available with the consumer remains the same.
Cardinal utility analysis ignores the changes in real income and its effect on
demand for goods following the change in price of a good. Further, it is
because of the constant marginal utility of money and therefore the neglect of
the income effect by Marshall that he could not explain Giffen Paradox.
Marginal utility of money also varies from a poor man to a rich one. For
example, a person having just Rs. 80/- with him will place much higher
valuation as each of these 10 rupees. But, someone who has thousands of
rupees with him may not place that much value on a Rs. 10 note.
4) Cardinal utility analysis does not split up the Price effect into
Substitution and Income effects:
Another shortcoming of the cardinal utility analysis is that it does not
distinguish between the income effect and the substitution effect of the price
change. Marshall and other exponents of cardinal utility analysis ignored
income effect of the price change by assuming the constancy of marginal
utility of money.
In real life, when the price of a good falls, the consumer becomes better off
than before, that is, a fall in price of a good brings about an increase in the real
income of the consumer. With this income he would be in a position to
purchase more of this good as well as other goods. This is the income effect of
the fall in price on the quantity demanded of a good. Besides, when the price of
a good falls, it becomes relatively cheaper than other goods and as a result the
consumer is induced to substitute that good for others. This results is increase
in quantity demanded of that good. This is the substitution effect of the price
change on the quantity demanded of the good. Thus total effect of price can be
decomposed into substitution effect and income effect.
5) Marshall could not explain Giffen Paradox:
By not visualising the price effect as a combination of substitution and income
effects and ignoring the income effect of the price change, Marshall could not
explain the Giffen Paradox. He treated it merely as an exception to his law of
demand. In contrast to it, indifference curve analysis has been able to explain
satisfactorily the Giffen good case.
According to indifference curve analysis, in case of a Giffen Paradox or the
Giffen good, negative income effect of the price change is more powerful than
substitution effect so that when the price of a Giffen good falls, the negative
income effect outweighs the substitution effect with the result that quantity
demanded of it falls.
Check Your Progress 5
1) If price of good is Rs. 10 and marginal utility of a consumer is Rs. 12,
how much will be the consumer surplus? Use utility analysis.
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Theory of .....................................................................................................................
Consumer
Behaviour .....................................................................................................................
2) Critically examine Cardinal utility approach.
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4.10 LET US SUM UP

Utility is a psychological phenomenon. It is a feeling of satisfaction, pleasure
or well-being experienced by the consumer from the consumption or
possession of the commodity or a service. In this sense, it is a subjective or
relative concept i.e. level of utility derived from a product differs from person
to person. We also examined the relationship between want, utility,
consumption and satisfaction i.e. how want leads to selection of commodity
having utility which in turn leads to consumption and finally satisfaction of
want. We further analysed the relationship between Marginal utility and Total
utility and the law of diminishing marginal utility. We also explained consumer
equilibrium using utility approach in case of single commodity and multiple
commodity. We also discussed the basic assumptions of consumer preferences.

4.11 REFERENCES
1) Dwivedi, D.N.(2008). Managerial Economics, 7th edition, Vikas
Publishing House.
2) Dornbusch, Fischer and Startz, Macroeconomics, McGraw Hill, 11th
edition, 2010.
3) Hal R. Varian, Intermediate Microeconomics, a Modern Approach, 8th
edition, W.W. Norton and Company/Affiliated East-West Press (India),
2010.
4) Kumar, Raj and Gupta, Kuldip (2011). Modern Micro Economics: Analysis
and Applications, UDH Publishing House.
5) Samuelson, P & Nordhaus, W. (1st ed. 2010) Economics, McGraw Hill
education.
6) Salvatore, D. (8th rd. 2014) Managerial Economics in a Global economy,
Oxford University Press.
7) http://www.learncbse.in/important-questions-for-class-12-economics-
consumers-equilibrium-through-utility-approach/
8) https://www.meritnation.com/ask-answer/question/explain-the-conditions-
of-consumer-s-equilibrium-in-case-of/theory-of-consumer-behaviour/
2323428
9) http://economicsconcepts.com/derivation of the demand curve.htm
10) http://www.vourarticlelibrary.com/economics/consumer-surplus-meaning-
measurement-critical-evaluation-uses-and-application/36842
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 Consumer Behaviour :
4.12 ANSWERS OR HINTS TO CHECK YOUR Cardinal Approach
PROGRESS EXERCISES
Check Your Progress 1
1) Study Section 4.2 and answer
2) 1. 20 2. 16 3. 10 4. 4 5. 0 6. -6
Check Your Progress 2
1) Completeness, Transitivity and more is preferred to less.
2) Consumer preference are the first step for determining consumer
behaviour. Consumer behaves according to his preferences and budget
constraint.
Check Your Progress 3
1) Study Section 4.5 and answer
Marginal utility is zero when total utility is maximum
Check Your Progress 4
1) A consumer buys a quantity of commodity when Marginal utility is equal
to price of that good.
2) Study Sub-section 4.6.1 and answer
Check Your Progress 5
1) Consumer Equilibrium is the difference between what customer is willing
to pay and what he actually pays. So consumer surplus is Rs. 2
2) Study Section 4.9 and answer

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