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It consists of choosing how much of each available good or service to consume, taking into account a constraint on total spending (income), the prices of the goods and their preferences. Utility maximization is an important concept in consumer theory as it shows how consumers decide to allocate their income.
The utility (value) associated with every attribute level can be estimated, thus allowing the analyst to construct the total utility of any possible configuration (in this case, of car or phone). However, a DCE may alternatively be used to estimate non-market environmental benefits and costs. [20]
In the context of cardinal utility, liberal economists postulate a law of diminishing marginal utility. This law states that the first unit of consumption of a good or service yields more satisfaction or utility than the subsequent units, and there is a continuing reduction in satisfaction or utility for greater amounts.
Total utility is the utility of an alternative, an entire consumption bundle or situation in life. The rate of change of utility from changing the quantity of one good consumed is termed the marginal utility of that good. Marginal utility therefore measures the slope of the utility function with respect to the changes of one good. [9]
Under the standard assumption of neoclassical economics that goods and services are continuously divisible, the marginal rates of substitution will be the same regardless of the direction of exchange, and will correspond to the slope of an indifference curve (more precisely, to the slope multiplied by −1) passing through the consumption bundle in question, at that point: mathematically, it ...
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 ...
Standard utility functions represent ordinal preferences. The expected utility hypothesis imposes limitations on the utility function and makes utility cardinal (though still not comparable across individuals). Although the expected utility hypothesis is standard in economic modeling, it is violated in psychological experiments.
Marginalism is a theory of economics that attempts to explain the discrepancy in the value of goods and services by reference to their secondary, or marginal, utility. It states that the reason why the price of diamonds is higher than that of water, for example, owes to the greater additional satisfaction of the diamonds over the water.