Term Category Characteristics Utility is an economic concept that Represents the amount of benefit or satisfaction received from the consumption of a good or a service. Marginal utility is an Refers to the amount of benefit received from each additional increment of consumption of a good or a service Diminishing marginal utility is an Suggests that each additional increment of consumption of a good or service begins to bring about less marginal utility.

Unit 2, Lesson 4 Utility and Diminishing Returns AOF Business Economics Unit 2, Lesson 4 Utility and Diminishing Returns Copyright © 2008–2012 National Academy Foundation. All rights reserved.

“Too much of a good thing” is an economic concept Economists are interested in the utility (value) that we attribute to things that we consume. Why does a cold drink taste so good after playing sports? Why doesn’t the second drink taste quite as good as the first? And the third even less appealing? And the fourth? Not unless you want to get sick. Utility is a useful concept because it offers some indication of how much a person might want something, or for that matter be willing to pay for it. Picture of Sweaty Basketball player drinking The answers are utility, marginal utility, and diminishing marginal utility.

Economics measures the value a good provides Marginal Utility: The benefit that one more instance of an item will give us (when consumed in a certain time period, e.g., a day), and therefore what we’re willing to pay for it Diminishing Marginal Utility: The decline in the benefit that each additional instance of an item brings when consumed Total Utility: The sum of all the benefit gained from the consumption of all the instances of an item, in the same time period (as indicated by what we’re willing to pay for them) Gatorades Consumed Marginal Utility of Each Gatorade Total Utility of the $ 0 $0 1 $ 1.59 2 $ 0.99 $ 2.58 3 $ 0.10 $ 2.68 4 $ 0.02 $ 2.70 5

At a certain point, consuming more of something provides no extra benefit Purple – Marginal Utility (the value each additional Gatorade brings to you or the amount you would pay for each additional one). Tan – Total Utility. It doesn’t drop to zero, it climbs up and stays there. (It is the sum of all value gained from consuming a good)

Utility can help businesses make decisions Gatorade factory tries to produce the right amount of Gatorade to satisfy the thirsty kids’ wants. It wants to do this while earning as much profit as possible. So how many workers should the factory hire? If you hire too many and produce too much, the price could ! Diminishing marginal returns – applies to producers (businesses). Has to do with how many workers a business employs in order to operate efficiently

allocative efficiency Term Definition allocative efficiency The provision of the right amount of goods and services, taking into account consumers’ preferences, the production possibilities provided by technology, and the scarcity (and hence price) of each of the production inputs used. comparative advantage An economic principle, used most in the theory of international trade, which states that a country should specialize in producing those goods where its advantage in productivity and costs, relative to its own productivity and costs in producing other goods, is greatest. diminishing marginal utility The tendency for the marginal utility associated with each additional increment of the consumption of a good or service to diminish, as the consumer consumes a larger amount of the good or service. diminishing returns An economic concept stating that using increasing amounts of a particular input (e.g., labor hours) in production, beyond a certain level, increases output less and less.

marginal physical product (MPP) The MPP is the amount of additional production of a good (or service) that results from using one more unit of an input (e.g., hours of labor). marginal utility The amount of benefit or satisfaction received from each additional instance of consumption of a good or a service. production efficiency The manufacture of the desired output with the minimum amount of effort, expense, or waste while taking account of the costs and benefits associated with a particular choice of what outputs to produce, and what inputs to use in producing them. specialization Concentration of economic activity on the production of a few particular goods or services. utility The benefit or satisfaction gained from the use of a good or a service.