Cardinal utility

Presentation on Cardinal Approach

Guided By Dr. Anjali ma’am

CARDINAL APPROACH

UTILITY

The satisfaction which a consumer gets by having or consuming goods or service is called utility.

Varies from: unit to unit, time to time, and place to place for same consumer

Same commodity gives different utility to different consumers

Measurement of Utility

Cardinal is a Latin word, which comes from utils (number).

Utility can be measured in units called- cardinal utility.

Utils are not well defined, but helps to know consumer behavior..

Useful to distinguish between two concepts:(1)total utility (2)marginal utility

Total Utility

Sum total of satisfactionBy consuming various units of commodityMore units- greater satisfactionSaturation point- maximum total utilityFurther consumptionTU starts declining

Marginal Utility

Change in the total utility resulting from 1 unit change in the consumption of good.

MUx= TUx

Qx

Basic assumptions

Utility can be measured so,comparision can be possible.

Utility is independent.Constant marginal utility. Example..utility of money is constantIntrospection: it is assumed that a mind of a person works

in a similar situation.

LAW OF DIMINISHING MARGINAL UTILITY

DEFINITION “For any individual Consumer the value that he attaches to successive units of a particular commodity will diminish steadily as his total consumption of that commodity increase, the consumption of all other goods being held constant”. (R.G.Lipsey) The additional benefit which a person derives from a given increase in his stock of a thing diminishing with every increase in stock that already he has.

Diagram

ASSUMPTIONS OF THE LAW OF DIMINISHING MARGINAL UTILITY

• Various units of the good are homogeneous.

• There is no time gap between consumption of the different units.

• Consumer is rational

• Tastes, preference, and fashions remain unchanged

DOES MONEY BUY HAPPINESS?

CASE FACTS

Economist calculated the following“mean happiness rating”

Very happy= 4 Prettey happy= 2 Not too happy= 0

In advance nations economist found that higher incomes were positively correlated with happiness responses which leads to satisfaction.

Following two situation given when people become happy:

Happiness is based on relative rather than absolute income.

Happiness quickly adapts to changes in the level of income.

Happiness is also based on society means as individuals become richer, they become happier but when society as a whole grows richer, nobody seems happier.

This type of situation seems in advance societies like U.S, U.K, France etc.

But in poor countries, higher incomes do make people happier.

Consumer equilibrium

Consumer equilibrium

Cardinal approach

MEANING OF

UTILITY

Recap

Law of diminishing marginal utility

CONSUMER EQUILIBRIUM

Recap

UNWARY INSURANCE COMPANIES

PROBLEMS FOR

Adverse Selection

• Averse selection is a process in which undesired result occur when buyers and sellers have different set of information.

• To counter the effects of adverse selection, insurers (to the extent that laws permit) ask a range of questions to individuals who apply to buy insurance

so that the price quoted can be varied accordingly, and any unreasonably high or unpredictable risks rejected.

Question : What details does an insurance company require to know before it will insure a person

to drive a car?

i. Personal Details i.e. age, height ,weight ,full description of occupation and average monthly income.

ii. Physical condition.[any disability or not]

iii. Habits.[like drink and drive, smoking while driving]

iv. Other or Previous insurance.

v. Previous accidents.

vi. License[full detail of it]

vii. Sum insured.

viii.Declaration

MORAL HAZARD

Insurance makes less careful to company and increases risk to the insurance company.

Case facts

Insurance against theft of bicycle.Insurance increases risk to the insurance

company.Risk analysis.

How to reduce moral hazard?

Following are used to reduce moral hazard...

A no claims bonus.The company only being prepared to insure an

item for part of its value.Offering lower premiums to those less likely to

claim.

Conclusion...

Case Studyon

“BISCUIT DID THE TRICK”

Conclusion:This case is relate to the concept of

equilibrium of the consumer.In equilibrium, the consumer balances the

utility of good against its cost. MU = P Therefore, She bought a cup of coffee with a

pair of biscuits at 10 Rs.

Law of equi marginal utility

“A consumer maximize his total utility by allocating his income among goods and services in such a way that the marginal utility derive from the last rupee spent on one goods equals to the other goods”

Marginal utility schedule

Units of money MU of X MU of Y1 20 242 18 213 16 184 14 155 12 96 10 3

LIMITATION OF THE

UTILITY ANALYSIS

1. All goods under consideration and their individual units need to be homogeneous, both qualitatively as well as quantitatively.

2. Tastes, habits, fashions and income of the consumer remain unchanged.

3. Consumption need to be a continuous process.

4. Marginal utility of money is assumed to be constant.

Taking account of time

Can I spare time to enjoy myself?

conclusion• Opportunity cost of doing an activity is the sacrifice

of time. • Now a days, utility of time is higher than the utility of

money.• You have to consider relative marginal utility of

activity against relative marginal cost.