Law of Diminishing Marginal Utility | Economics

According to Marshall, “the additional benefit that a person derives from a given increase in his stock of a thing diminishes with every increase in the stock that he already has.” This means that as a consumer consumes more of a commodity, the utility of additional unit consumed diminishes. This is called Law of Diminishing Marginal Utility.

This law can be explained by taking a very simple example. Suppose a man is very thirsty. He goes to the market and buys one glass of sugarcane juice. That one glass gives him immense pleasure or we say the first glass of juice has great utility for him. If he takes second glass of sugarcane juice after that, the utility will be less than that of the first glass. It is because the edge of his thirst has been blunted to a great extent. If he drinks third glass, the utility of the third glass will be less than that of the second and so on.

The utility goes on diminishing with the consumption of every successive glass of juice till it drops down to zero. This is the point of satiety. It is the position of consumer’s equilibrium or maximum satisfaction. If the consumer is forced further to take a glass of sugarcane juice, it will lead to disutility causing total utility to decline. The marginal utility will become negative. A rational consumer will stop taking juice at the point at which marginal utility becomes negative, even if it is free.

Assumptions/Limitations/Prerequites for Law of Diminishing Marginal Utility

Few assumptions related to / limitations of / prereqisites for Law of Diminishing Marginal Utility are as follows: -

1. Homogenous, Standard, and Identical Units - For the law to apply, every unit of the commodity consumed must be identical in size, quality, and appearance. If the first glass of water you drink is cold and the second is warm, your change in satisfaction might be due to the temperature difference rather than the act of consuming the second unit. Homogeneity ensures that any change in utility is attributable solely to the quantity consumed.
2. No Time Gap Between Consumption - The consumption of the units must be continuous or successive. If there is a long time gap between consuming units, the consumer's hunger or desire may naturally regenerate. The law of diminishing utility relies on the satiation of a specific desire at a specific moment; if you wait five hours between eating slices of pizza, your appetite is essentially reset.
3. Consumer Wants to Maximize Utility - This assumes the consumer is "rational". Economic models generally assume that a consumer acts in a way that provides them with the highest level of personal satisfaction. If a consumer were not trying to maximize utility, their behavior would be erratic, making it impossible to predict or measure the decline in marginal utility.
4. Tastes and Preferences Remain Constant - Utility is subjective. If a consumer’s tastes were to change, for example, if they suddenly developed a new liking for a product as they consumed more of it, the satisfaction derived from the next unit might increase rather than decrease. By assuming tastes are constant, economists isolate the effect of quantity on utility. It ensures that the decline in satisfaction is due solely to the satiation of the consumer's desire for that specific good, rather than a fluctuation in their mood, external trends, or shifting personal interests.
5. Marginal Utility of Money Remains Constant - In reality, the marginal utility of money does change (a dollar is worth more to a person who has very little than to a billionaire). However, if the "ruler" used to measure utility were constantly changing its length, we could not accurately measure the utility of the goods being purchased. This assumption standardizes the measurement. By keeping the marginal utility of money fixed, economists can treat money as a stable unit of measurement, allowing for the consistent quantification of the satisfaction gained from consuming different goods.

Reasons for Decline in Marginal Utility (MU)

The reasons for decline in Marginal Utility (MU) are as follows: -

1. Satiety of Specific Wants - Human wants for a particular good are usually limited at a specific point in time. While our overall desires might be infinite, our capacity to enjoy one specific thing, like coffee or shoes, is not. The first unit satisfies the most urgent part of that want. As you continue consuming, the intensity of the desire fades. Eventually, you reach a point of "satiety" where more of the good provides zero or even negative utility (disutility).
2. Priority of Uses (The Ranking Effect) - Most goods can be put to several uses, some of which are more important than others. A rational consumer will always apply the first units of a good to its most urgent use. For example.: Water. If you have only one gallon of water, you use it for drinking (high utility). If you have ten gallons, you might use the last gallon to wash your car or water a plant (lower utility). The marginal utility declines because each "next" unit is relegated to a less critical purpose.
3. Imperfect Substitutability - In the real world, goods are not perfect substitutes for each other. You cannot satisfy a thirst for water by drinking a glass of juice indefinitely. Because you need a variety of goods to maintain balance, consuming an excess of just one thing leads to a rapid drop-off in value compared to things you currently lack.
4. Psychological Adaptation - Our sensory receptors naturally adapt to stimuli. This is a physiological phenomenon. The initial "rush" or pleasure derived from a stimulus (like a new song or a sweet taste) naturally lessens as the brain becomes accustomed to it. The novelty/freshness of a product provides a specific type of utility that cannot be replicated by the second or third identical unit.

Exceptions of Law of Diminishing Marginal Utility

Few exceptions of law of diminishing marginal utility are as follows: -

1. Misers – For a miser, the love for money transcends normal consumption habits. Instead of the utility of an additional dollar decreasing, their psychological satisfaction actually increases with every unit of money added to their stock. They do not consume the money; they derive utility simply from the act of accumulation and the sense of security or power that possession brings.
2. Money – For money it is often said, “the more one has of it, the greater is the desire to acquire still more.” Money is often considered an exception because it acts as a medium of exchange for an infinite variety of other goods and services. Because it can be used to satisfy almost any desire, the marginal utility of money rarely diminishes for most people.
3. Hobbies and Rare Collections – In hobbies like stamp collecting, coin collecting, or acquiring antiques, the law often fails because the "value" of the collection is not just the sum of its parts. Often, adding a new, rare item increases the utility of the entire collection significantly. A collector feels more joy with the 100th rare coin than they did with the 10th, as the completion of a set or the prestige of the collection grows.
4. Addictive Substance - In the case of addiction, the more a person consumes, the higher their craving becomes. The initial units might provide some satisfaction, but subsequent units are often needed to maintain a state of "normalcy" or to satisfy an escalating psychological and physiological dependence. This leads to an increase, rather than a decrease, in the perceived marginal utility. For eg.: Alcohol.
5. Acquisition of Knowledge - Many argue that knowledge is an exception. The more one learns, the more one realizes how much more there is to know. This "intellectual hunger" often drives people to seek more information, where the utility of learning doesn't decline but encourages further study.
6. Power and Status - Similar to money, the pursuit of power and social status often follows a pattern where the acquisition of more power fuels the desire for even greater influence. The marginal utility derived from an increase in status rarely falls; rather, it often intensifies as an individual climbs the social or corporate ladder.
7. Music and Art (Acquired Tastes) - Sometimes, the first time you listen to a complex piece of music or view a challenging piece of art, the utility is low because it is unfamiliar. However, with repeated exposure (consumption), the listener begins to appreciate nuances and structures, causing the marginal utility to increase with each subsequent listening or viewing.