Cardinal Utility Approach

Cardinal Utility Approach is one of the earliest theories in economics aimed at understanding how consumers make decisions to maximize satisfaction from consuming goods and services. According to this approach, utility can be measured in absolute and quantitative terms, just like other physical quantities such as weight or height. This measurable satisfaction, often referred to as “utils,” forms the basis of consumer decision-making in the cardinal utility framework.

Key Concepts of Cardinal Utility:

• Utility:

Utility, in economics, refers to the satisfaction or pleasure derived from consuming goods or services. The cardinal utility approach assumes that this satisfaction can be quantified in specific units known as utils. For example, a person may get 10 utils from consuming one apple and 20 utils from consuming a pizza. These values allow economists to predict how individuals make choices between different goods.

• Total Utility (TU):

Total utility refers to the total satisfaction a consumer gets from consuming a particular quantity of a good. It is the sum of utilities derived from all units consumed.

• Marginal Utility (MU):

Marginal utility is the additional satisfaction or utility that a consumer gets from consuming one more unit of a good or service. Marginal utility is a key concept in understanding consumer behavior, as it helps explain the decision to consume more or less of a product. It is expressed as:

MU = ΔTU / ΔQMU

Where:

• MU is the marginal utility,
• ΔTU is the change in total utility,
• ΔQ is the change in the quantity consumed.

Law of Diminishing Marginal Utility:

A crucial aspect of the cardinal utility approach is the Law of Diminishing Marginal Utility, which states that as a consumer consumes more units of a good, the additional satisfaction from each successive unit decreases. In other words, the more you have of something, the less you desire more of it.

For example, imagine eating slices of pizza. The first slice might provide great pleasure, the second slice slightly less, and by the third or fourth slice, the additional satisfaction you get from eating yet another slice decreases. This diminishing utility is the core driver behind many economic behaviors, such as decreasing willingness to pay for additional units.

Assumptions of the Cardinal Utility Approach:

• Quantifiable Utility:

The most significant assumption of this approach is that utility can be measured in quantitative terms. For instance, an individual can derive 15 utils from consuming one apple and 30 utils from consuming a chocolate bar.

• Constant Marginal Utility of Money:

It is assumed that the marginal utility of money remains constant. That is, the satisfaction a consumer gets from spending an additional unit of currency remains the same regardless of how much money they have or spend. This assumption simplifies the analysis of consumer choice.

• Rational Behavior:

Consumers are assumed to be rational and aim to maximize their utility. Given the available budget and the prices of goods, consumers allocate their resources to achieve the highest possible level of satisfaction.

• Independence of Utilities:

The total utility of a combination of goods is the sum of the utilities of individual goods. That is, consuming one good does not affect the satisfaction derived from consuming another good.

Utility Maximization:

The goal of a rational consumer is to allocate their budget in such a way that maximizes total utility. According to the cardinal utility approach, consumers will continue to consume additional units of a good until the marginal utility derived from the good equals its price. This is formalized in the utility maximization rule, which states:

MUx = Px

Where:

• MUx​ is the marginal utility of good xxx,
• Px​ is the price of good xxx.

If a consumer is faced with multiple goods, the utility maximization condition becomes:

MUx /Px = MUy/ Py =⋯ = MUn / Pn

This equation states that the marginal utility per unit of currency spent on each good should be equal for all goods. If this condition is not met, the consumer can increase total utility by reallocating their spending to goods that provide a higher marginal utility per unit of money.

Example of Cardinal Utility

Consider a consumer with a budget of $10 and two goods to choose from: apples and oranges. The prices of apples and oranges are $1 and $2 per unit, respectively. The consumer’s marginal utility from each successive unit is given below:

Using the utility maximization rule, the consumer will allocate their budget in such a way that the marginal utility per dollar spent is equal for both apples and oranges. In this case, the consumer will buy 3 units of apples and 2 units of oranges to maximize total utility.

Criticisms of the Cardinal Utility Approach:

• Difficulty in Measuring Utility:

One of the major criticisms is that utility is subjective, and it is unrealistic to assume that people can quantify their satisfaction in numeric terms (utils).

• Constant Marginal Utility of Money:

In reality, the marginal utility of money does not remain constant. As people become wealthier, the satisfaction derived from each additional unit of currency tends to decrease.

• Lack of Realism:

The assumption that utilities from different goods are independent is not always true. In many cases, the consumption of one good affects the satisfaction derived from another (e.g., consuming complementary goods).