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Utility means satisfaction which consumers derive from commodities and services by purchasing different units of money.From Wikipedia, the free encyclopedia “Ineconomics, utility is a measure of satisfaction;it refers to the total satisfaction received by a consumer from consuming a good or service. “Given this measure, one may speak meaningfully of increasing or decreasing utility, and thereby explain economic behavior in terms of attempts to increase one's utility. Utility is often affected by consumption of various goods and services, possession of wealth and spending of leisure time. According to Utilitarian’s, such as Jeremy Bentham (1748–1832) and John Stuart Mill (1806–1873), theory “Society should aim to maximize the total utility of individuals, aiming for "the greatest happiness for the greatest number of people". Another theory forwarded by John Rawls (1921–2002) would have society maximize the utility of those with the lowest utility, raising them up to create a more equitable distribution across society. Utility is usually applied by economists in such constructs as the indifference curve, which plot the combination of commodities that an individual or a society would accept to maintain at given level of satisfaction. Individual utility and social utility can be construed as the value of a utility function and a social welfare function respectively. When coupled with production or commodity constraints, under some assumptions, these functions can be used to analyze Pareto efficiency, such as illustrated by Edgeworth boxes in contract curves. Such efficiency is a central concept in welfare economics.In finance, utility is applied to generate an individual's price for an asset called the indifference price. Utility functions are also related to risk measures, with the most common example being the entropic risk measure. It was recognized that utility could not be measured or observed directly, so instead economists devised a way to infer underlying relative utilities from observed choice. These 'revealed preferences', as they were named by Paul Samuelson, were revealed e.g. in people's willingness to pay:Utility is taken to be correlative to Desire or Want. It has been already argued that desires cannot be measured directly, but only indirectly, by the outward phenomena to which they give rise: and that in those cases with which economics is chiefly concerned the measure is found in the price which a person is willing to pay for the fulfillment or satisfaction of his desire. (Marshall 1920:78) When comparing objects it makes sense to rank utilities, but older conceptions of utility allowed no way to compare the sizes of utilities - a person may say that a new shirt is preferable to a baloney sandwich, but not that it is twenty times preferable to the sandwich. The reason is that the utility of twenty sandwiches is not twenty times the utility of one sandwich, by the law of diminishing returns. So it is hard to compare the utility of the shirt with 'twenty times the utility of the sandwich'. But Von Neumann and Morgenstern suggested an unambiguous way of making a comparison like this.
Their method of comparison involves considering probabilities. If a person can choose between various randomized events (lotteries), then it is possible to additively compare the shirt and the sandwich. It is possible to compare a sandwich with probability 1, to a shirt with probability p or nothing with probability 1 − p. By adjusting p, the point at which the sandwich becomes preferable defines the ratio of the utilities of the two options. Utility as probability of success Castagnoli and LiCalzi (1996) and Bordley and LiCalzi (2000) provided another interpretation for Von Neumann and Morgenstern's theory. Specifically for any utility function, there exists a hypothetical reference lottery with the utility of a lottery being its probability of performing no worse than the reference lottery. Suppose success is defined as getting an outcome no worse than the outcome of the reference lottery. Then this mathematical equivalence means that maximizing expected utility is equivalent to maximizing the probability of success. In many contexts, this makes the concept of utility easier to justify and to apply. For example, a firm's utility might be the probability of meeting uncertain future customer expectations. [5] Discussion and criticism Cambridge economist Joan Robinson famously criticized utility for being a circular concept: "Utility is the quality in commodities that makes individuals want to buy them, and the fact that individuals want to buy commodities shows that they have utility" (Robinson 1962: 48).[6] Different value systems have different perspectives on the use of utility in making moral judgments. For example, Marxists, Kantians, and certain libertarians (such as Nozick) all believe utility to be irrelevant as a moral or at least not as important as other factors such as natural rights, law, conscience and/or religious doctrine. It is debatable whether any of these can be adequately represented in a system that uses a utility model.[citation needed] Another criticism comes from the assertion that neither cardinal nor ordinary utility is empirically observable in the real world. In the case of cardinal utility it is impossible to measure the level of satisfaction "quantitatively" when someone consumes or purchases an apple. In case of ordinal utility, it is impossible to determine what choices were made when someone purchases, for example, an orange. Any act would involve preference over a vast set of choices (such as apple, orange juice, other vegetable, vitamin C tablets, exercise, not purchasing, etc.). There are two main approaches to the of consumerbehavior of demand. The first approach is the Marginal Utility or Cardinalist Approach. The second is the Ordinalist Approach. Or the Indifference curve analysis. We discuss these two approaches separately. Cardinal Utility This was developed by Alfred Marshall who introduced an imaginary unit called the util as a means of measuring utility. 1 util = 1 unit of money. Cardinalist Utility has the following characteristics: It is additive in that, cardinal numbers could be used to measure utility. Each consumer chooses quantity demanded of all goods and services in order to maximize his/her utility or want satisfying power, given the limits imposed by available income. The concept of utility is ethically neutral. It also has total utility i.e. the total utility is the total benefit/satisfaction obtained from all the units of a particular product consumed. Total utility depends on the person's level of consumption - more consumption generally gives more total utility. Economists distinguish between cardinal utility and ordinal utility. When cardinal utility is used, the magnitude of utility differences is treated as an ethically or behaviorally significant quantity. On the other hand, ordinal utility captures only ranking and not strength of preferences. Utility functions of both sorts assign a ranking to members of a choice set. For example, suppose a cup of orange juice has utility of 120 utils, a cup of tea has a utility of 80 utils, and a cup of water has a utility of 40 utils. When speaking of cardinal utility, it could be concluded that the cup of orange juice is better than the cup of tea by exactly the same amount by which the cup of tea is better than the cup of water. One is not entitled to conclude, however, that the cup of tea is two thirds as good as the cup of juice, because this conclusion would depend not only on magnitudes of utility differences, but also on the "zero" of utility. It is tempting when dealing with cardinal utility to aggregate utilities across persons. The argument against this is that interpersonal comparisons of utility are meaningless because there is no good way to interpret how different people value consumption bundles.When ordinal utilities are used, differences in utils are treated as ethically or behaviorally meaningless: the utility index encode a full behavioral ordering between members of a choice set, but tells nothing about the related strength of preferences. In the above example, it would only be possible to say that juice is preferred to tea to water, but no more. Neoclassical economics has largely retreated from using cardinal utility functions as the basic objects of economic analysis, in favor of considering agent preferences over choice sets. However, preference relations can often be represented by utility functions satisfying several properties.Ordinal utility functions are unique up to positive monotone transformations, while cardinal utilities are unique up to positive linear transformations.#p#分页标题#e# Although preferences are the conventional foundation of microeconomics, it is often convenient to represent preferences with a utility function and analyze human behavior indirectly with utility functions. Let X be the consumption set, the set of all mutually-exclusive baskets the consumer could conceivably consume. The consumer's utility function ranks each package in the consumption set. If the consumer strictly prefers x to y or is indifferent between them, then u(x) > u(y). For example, suppose a consumer's consumption set is X = {nothing, 1 apple,1 orange, 1 apple and 1 orange, 2 apples, 2 oranges}, and its utility function is u(nothing) = 0, u(1 apple) = 1, u(1 orange) = 2, u(1 apple and 1 orange) = 4, u(2 apples) = 2 and u(2 oranges) = 3. Then this consumer prefers 1 orange to 1 apple, but prefers one of each to 2 oranges. Cardinal utility means satisfaction that can be measured in numbers such as 1, 2, and 3. While ordinal utility refers to satisfaction that cannot be measureable in numbers. The concept of Cardinal Utility was used by Marshal to define Consumer's Equilibrium. Cardinal Utility means consumer could measure the satisfaction derived by the consumption of any goods or services in terms of number and unit of that measurement is Utils or the Money. In economics, a cardinal utility function or scale is a utility index that preserves preference orderings uniquely up to positive linear transformations. Two utility indices are related by a linear transformation if for every value u(x1) of one index u, occurring at quantity x1 of the goods bundle being evaluated, the corresponding value v(x1) of the other index v satisfies a relationship of the form. For fixed constants a and b. Thus the utility functions themselves are related by: v(x) = au(x) + b. The two indices differ only with respect to scale and origin. Cardinal utility is mostly considered to be an outdated idea. Only within specific contexts such as decision making under risk, utilitarian welfare evaluations, and discounted utilities for intertemporal evaluations, cardinal utility is usually accepted. Elsewhere, such as in general consumer theory, ordinal utility is preferred. Modern work in cardinal utility theory began in the 18th century, when Daniel Bernoulli noted how the diminishing marginal utility of wealth would satisfactorily explain why a riddling game like the St. Petersburg paradox should not led to an infinite expected value. Bernoulli thought that a logarithmic utility function accounted well for the diminishing marginal utility of wealth since people consider money gains to be less and less satisfying the more they possess of it. This way, by attaching an act of human beings (consuming monetary units) to a functional form (the logarithm), the rational ground for a theory of utility was layed down, though it was yet to be linked to the economic analysis of demand. The first initiatives to theorize about utility treated it as if it was a physical attribute, so that its quantification would allegedly serve as a valid criterion to judge whether someone was better off or prospered after some action or decision was made. In this vein, Jeremy Bentham reflected on how satisfaction or utility could be measured by some complex introspective examination. Driven by a desire to establish "the principle of utility" as the basis of all legislation and social policy, Bentham wrote a manuscript circa 1782 where he defines the unit of intensity as "the degree of intensity possessed by that pleasure which is the faintest of any that can be distinguished to be pleasure"; he also stated that, as these pleasures are perceived to be more and more intense, they may be represented by higher and higher numbers. In the 18th and 19th centuries the issue of the measurability of "utility" received plenty of attention from European schools of political economy, most notably through the work of William Stanley Jevons, Leon Walras and Alfred Marshall. Jevons defined utility as a useful object, or something which could increase pleasurable feeling or remove pain Nonetheless; he was characteristically frank and confused when referring to the measurability of utility, since he argued -in later editions of his works- that it was difficult to imagine how estimations of utility and summations can be made with any approach to accuracy. Overall, there was an enthusiasm for measurement in the Victorian era, and there were many aspects of life succumbing to quantification. Supporters of cardinal utility theory in the 19th century suggested that the amount of utility obtained had to have a repercussion on the market price, although they did not say much about the problem of dealing with the subjectivity behind this alleged effect. Accurately measuring subjective pleasure (or pain) seemed awkward, and the thinkers of the time were aware of it; otherwise, they would not had renamed utility in imaginative ways such as subjective wealth, overall happiness, moral worth, psychic satisfaction, or ophélimité. During the second half of the 19th century, many studies related to this fictional magnitude -utility- were conducted, but the conclusion was always the same: unlike with distance or time, one cannot simply use a ruler or stopwatch to observe the number of "utils" obtained (that was the name actually given to the units in a utility scale). Not only it proved impossible to definitively say whether a good is worth 50, 75, or 125 utils to a person, or to two different people, but the mere dependence of utility on notions of hedonism, led academic circles to be skeptical of this theory. Francis Edgeworth felt necessary to ground the theory of utility into the real world. He discussed the quantitative estimates that a person can make of his own pleasure or the pleasure of others, borrowing methods developed in psychology to study hedonic measurement: psychophysics. This field of psychology was built on work by Ernst H. Weber, but its ideas were abandoned as the Stanley Steven's Power Law became more accepted. In the late 19th century, Carl Menger and his followers from the Austrian school of economics undertook the first successful departure from measurable utility, in the clever form of a theory of ranked uses. Despite abandoning the thought of quantifiable utility (i.e. psychological satisfaction mapped into the set of real numbers) Menger managed to establish a body of hypothesis about decision-making, resting solely on a few axioms of ranked preferences over the possible uses of goods and services. Around the turn of the 19th century, a fraction of the marginalists known as the neoclassical, started to embrace alternative ways to deal with the measurability issue. By 1900, Pareto was hesitant about accurately measuring pleasure or pain because he thought that such a self-reported subjective magnitude lacked scientific validity. He wanted to find an alternative way to treat utility that did not rely on erratic perceptions of the senses. The works and manuals of Vilfredo Pareto, Francis Edgeworth, Irving Fischer, and Eugene Slutsky, were pivotal to the development of utility theory. According to Viner, these economic thinkers were striving to come up with a theory that would explain the negative slopes of demand curves. Their method consisted of rejecting the measurability of utility by pursuing the construction of some abstract indifference curve map. Ordinal utility An improved theory of utility (ordinal utility) was put together by John Hicks and Roy Allen in 1934, in a seminal paper for the theory of consumer behavior under perfect competition and certainty. Ordinal utilitytheory states that while the utility of a particular good or service cannot be measured using a numerical scale bearing economic meaning in and of itself, pairs of alternative bundles (combinations) of goods can be ordered such that one is considered by an individual to be worse than, equal to, or better than the other. This contrasts with cardinal utility theory, which generally treats utility as something whose numerical value is meaningful in its own right. When a large number of bundles of goods are compared, the preferences of the individual can be seen. This information is usually put together on a graph called an indifference map. One of these is shown below: Each indifference curve is a set of points, each representing a combination of quantities of two goods or services, all of which combinations the consumer is equally satisfied with. The further a curve is from the origin, the greater is the level of utility. The slope of the curve (the negative of the marginal rate of substitution of X for Y) at any point shows the rate at which the individual is willing to trade off good X against good Y maintaining the same level of utility. The curve is convex to the origin as shown assuming the consumer has a diminishing marginal rate of substitution. It can be shown that consumer analysis with indifference curves (an ordinal approach) gives the same results as that based on cardinal utility theory — i.e., consumers will consume at the point where the marginal rate of substitution between any two goods equals the ratio of the prices of those goods (the equi-marginal principle). Whereas Ordinal Utility means giving the rank to the utility derived by the consumption of goods and services. This Concept was given by J.R. Hicks. This is more realistic and better than cardinal utility. This is totally based on Introspection. The ordinal utility emphasize on ordering/rank bundles of goods. The cardinal utility emphasize on the size of the difference between two bundles of goods.
Consumer equilibrium utility approach What is Consumerequilibriumunder ordinal utility approach? Consumer equilibrium is the point where consumer attains highest level of satisfaction. There are two conditions of equilibrium under ordinal approach 1- Necessary Condition: 'Budget line is tangent... What is cardinalistapproach? The cardinalist school or the marginalist approach is based on the argument that the satisfaction derived from the consumption of any commodity by a consumer can be measured in specific units of who is consumers explain? Consumers are the Creatures that use up products. Cardinal Utility Analysis: Human wants are unlimited and they are of different intensity. The means at the disposal of a man are not only scarce but they have alternative uses. As a result of scarcity of recourses, the consumer cannot satisfy all his wants. Continue reading. Total Utility and Marginal Utility: People buy goods because they get satisfaction from them. This satisfaction which the consumer experiences when he consumes a good, when measured as number of utils is called utility. Continue reading. Law of Diminishing Marginal Utility: The 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, the utility from the successive units goes on diminishing”. Continue reading. Law of Equi Marginal Utility: In the cardinal utility analysis, the principle of equal marginal utility occupies an important place. We state the assumptions of the law first and then proceed to explain it Derivation of the Demand Curve in Terms of Utility Analysis: Dr. Alfred Marshal was of the view that the law of demand and so the demand curve can be derived with the help of utility analysis. Consumer Behaviour • It is the study of how people buy, what they buy, when they buy and why they buy. • It attempts to understand the buyer decision processes/buyer decision making process, both individually and in groups. • It also tries to assess influences on the consumer from groups such as family, friends, reference groups, and society in general. • The theory of consumer behavior in managerial economics depends on a) Budget • constrained by income and the price of the goods, • The budget constraint specifies the combination of goods the consumer can afford to buy. b) Preferences • Economists use the concept of utility to describe preferences. • There are some assumptions of consumer behavior theory like :- a) rational behavior b) clear cut preferences Reference ^ Alfred Marshall. 1920. Principles of Economics. An introductory Volume. 8th edition. London: Macmillan. ^ Jonathan E. Ingersoll, Jr. Theory of Financial Decision Making. Rowman and Littlefield, 1987. p. 21 ^ J.O. Berger, Statistical Decision Theory and Bayesian Analysis. Springer-Verlag 2nd ed. (1985) ch. 2. (ISBN 3540960988) ^ Castagnoli, E. and M. LiCalzi. "Expected Utility Theory without Utility." Theory and Decision, 1996, Bordley, R. and M. LiCalzi. "Decision Analysis with Targets instead of Utilities," Decisions in Economics and Finance. 2000. Bordley,R. And C.Kirkwood. Multiattribute preference analysis with Performance Targets. Operations Research. 2004. Bordley, R. And S. Pollock. A decision Analytic approach to reliability-based design optimization. (2004). ^ Joan Robinson, 1962. Economic Philosophy. Harmondsworth, Middlesex, UK: Penguin Books Ltd. Further readingNeumann, John von&Morgenstern, Oskar (1944). Theory of Games and Economic Behavior. Princeton, NJ: Princeton University Press. Nash, John F. (1950). "The Bargaining Problem". Econometrica18 (2): 155–162. JSTOR 1907266. Anand, Paul (1993). Foundations of Rational Choice Under Risk. Oxford: Oxford University Press. ISBN 0198233035. Kreps, David M. (1988). Notes on the Theory of Choice. Boulder, CO: Westview Press. ISBN 0813375533. Fishburn, Peter C. (1970). Utility Theory for Decision Making. Huntington, NY: Robert E. Krieger. ISBN 0882757369. Plous, S. (1993). The Psychology of Judgement and Decision Making. New York: McGraw-Hill. ISBN 0070504776. Georgescu-Roegen, Nicholas (Aug. 1936). "The Pure Theory of Consumer's Behavior". Quarterly Journal of Economics50 (4): 545–593. JSTOR 1891094 |
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