Whenever sets of alternatives are open to us at the same point of time, we often make choices. Provided we are all rational beings, it can be said that, behind all activities, our basic motive is to maximize the total level of satisfaction. Whatever we choose in our daily life depends on the way we value it. For example, if you are given with alternatives, either to study Economics or to practice Mathematics, you will choose the alternative that gives you more satisfaction. Again, when the number of available alternatives is more than two we may choose a combination.

Here we have to understand the difference between preferences and choices. From a bunch of goods available to the consumer, there may exist a difference in his preference and choice. This is because; while we make preferences we only express our likes and dislikes. On the contrary, we choose something from the preferred alternatives that suits our budget best.

The concept of utility has been developed by economists to explain the basic principles of consumer choice and behavior. By utility we mean the extent of satisfaction obtained from the consumption of goods and services preferred by consumers. Given the available resources, the level of income, and market prices of various goods, the rational consumer allocates his spending in such a way that the preferred combination gives him the highest utility.

To compare the various goods available to the consumer, two basic approaches are followed; ‘the cardinal approach’ and ‘the ordinal approach’. According to the cardinal approach, utility can be measured in subjective units. Whereas, the ordinal approach implies that utility cannot be measured, but can only be ranked in order of preference. For example, let us consider that there are five goods, X1, X2, X3, X4 and X5, from which the consumer has to choose only one. Following the cardinal approach, let us assume that the amounts of utilities obtained from the various goods are:

Good                  Utility            Rank order

(in units)

  X1                        14                     2nd


X2                        03                     5th


X3                        10                     3rd


X4                        08                     4th


X5                        17                     1st

Here we choose the good X5 as it is measured to give the maximum amount of utility, i.e. 17 units. Whereas, following the ordinal approach, we would have ranked the available alternative in order of preference. So in ordinal approach instead of measuring the amount of utility obtained from the goods, we simply rank them in order to preference to match our choice.

3 thoughts on “UTILITY THEORY”

  1. My husband and i ended up being very comfortable that Albert managed to carry out his research using the precious recommendations he acquired in your blog. It is now and again perplexing just to continually be giving for free tips which often men and women have been trying to sell. We really grasp we now have the blog owner to thank for this. The specific explanations you have made, the easy blog navigation, the friendships you can make it easier to foster – it’s many spectacular, and it’s making our son and the family imagine that this situation is interesting, which is highly essential. Many thanks for the whole thing!

  2. I intended to draft you a very small word to thank you very much as before regarding the pleasant solutions you have provided on this site. It was simply tremendously generous of people like you to convey publicly precisely what a lot of people could have sold for an electronic book to get some cash on their own, certainly given that you might have done it if you ever desired. Those tactics likewise worked like a easy way to comprehend other people have similar fervor just as mine to find out a lot more with regard to this matter. I am certain there are several more enjoyable occasions up front for many who browse through your blog.

  3. I have to show my appreciation for your kind-heartedness in support of men and women who have the need for help with this important subject. Your personal commitment to getting the solution all around became especially significant and have constantly enabled people much like me to reach their aims. Your new helpful suggestions indicates a lot a person like me and even more to my fellow workers. Regards; from everyone of us.

Leave a Reply

Your email address will not be published. Required fields are marked *