THEORY OF CONSUMER BEHAVIOUR

• Consumer Behaviour. The behaviour of the

consumer associated with selection, purchase or
consumption of goods and services is called
consumer behaviour or consumer theory.
• Consumer make decision by allocating his scarce
resources or income across different goods and
services in such a way to get maximum possible
satisfiction or utility.
• Objective of consumer: To maximize utility or
satisfiction
• Constraints: Limited income or resources
 THEORY OF CONSUMER BEHAVIOUR
Utility
The power of a commodity to satisfy human want is called utility.
eg bread has a utility for us because we eat it, similarly cloth has
a utility for us because we wear it, when a thirsty person drinks
water then we say that water has a utility for him, pen has a
utility for a person who want to write with it.
In economics, utility is a term used to determine the
worth or value of a good or service. More specifically, utility is the total
satisfaction or benefit derived from consuming a good or service. Economic
theories based on rational choice usually assume that consumers will strive to
maximize their utility.
The economic utility of a good or service is important to understand because it
directly influences the demand, and therefore price, of that good or service. In
practice, a consumer's utility is usually impossible to measure or quantify.
However, some economists believe that they can indirectly estimate what is
the utility of an economic good or service by employing various models
 THEORY OF CONSUMER BEHAVIOUR
• Characteristics of Utility:
• The following are the important characteristic features of utility:
1. Utility has no Ethical or Moral Significance:
A commodity which satisfies any type of want, whether moral or immoral,
socially desirable or undesirable, has utility, i.e., a knife has utility as a
household appliance to a housewife, but it has also a utility to a killer for
stabbing some body.
• 2. Utility is Psychological:
• Utility of a commodity depends on a consumer’s mental attitude and
assessment regarding its power to satisfy his particular want. Thus, utility
of a commodity may differ from person to person. Psychologically, every
consumer has his likes and dislikes and everyone determines his own level
of satisfaction.
• For Example: A consumer who is fond of apples may find a high utility in
apples in comparison to the consumer who has no liking for apples.
Similarly a strictly vegetarian person has no utility for mutton or chicken.
 THEORY OF CONSUMER BEHAVIOUR
• 3. Utility is always Individual and Relative:
• Utility of a commodity varies in different situations in relation to
time and place. Even the same consumer may derive a higher or
lower utility for the same commodity at different times and different
places. For example—a person may find more utility in woolen
clothes during the winter than in summer or at Kashmir than at
Mumbai.
• 4. Utility is not Necessarily Equated with Usefulness OR utility is
different from usefulness:
• Utility simply means the ability to satisfy a want. A commodity may
have utility but it may not be useful to the consumer. For instance—A
cigarette has utility to the smoker but it is injurious to his health.
Smoking is not usefull but it has utility for smoker.However, demand
for a commodity depends on its utility rather than its usefulness. Thus
many commodities like opium liquor, cigarettes etc. have demand
because of utility, even though, they are harmful to human beings.
 THEORY OF CONSUMER BEHAVIOUR
• 5. Utility cannot be Measured Objectively:
• Utility being a subjective phenomenon or feeling of a consumer
cannot be expressed in numerical terms. So utility cannot be
measured cardinally or numerically. It cannot be measured
directly in a precise manner. Professor Marshall has however,
unrealistically assumed cardinal measurement of utility in his
analysis of demand.
• 6. Utility Depends on the Intensity of Wants:
• Strong desire for a good increase its utility. No desire for a good
means no utility. Eg utility of cigarette is zero for non smoker.
• 7. Utility is Different from Pleasure:
• A commodity may have utility but its consump­tion may not give
any pleasure to the consumer, e.g., medicine or an injection. An
injection or medicinal tablet gives no pleasure, but it is necessary
for the patient.
 Types of utility
• Positive Utility, Negative Utility, Total Utility, Marginal Utility,
Initial Utility and Zero Utility.
• Positive Utility: The utility becomes positive when it falls but does
remain above zero. At this point total utility continous to increase.
• Negative Utility: When a person continues to consume a good after
his satisfiction reaches zero, the satisfiction becomes
dissatisfiction. This dissatisfiction in economic term is callled
negative utility.
• Total Utility: Total satisfiction obtained by a person when he
consume a given quantity of a good is called total utility. For
example when a person consume one unit of apple his total utility
is for example five. When he consume second unit of apple, his
total utility from the first unit of apple will be added to the next
marginal utility which becomes ten. Thus each and every utility of
succeding apples will be added to the preceding units, which makes
our total utility.
 Types of utility
• Marginal Utility: Marginal utility is the change in total utility
resulting from consumption of one more unit of commodity.
• As we consume more and more unit of commodity the total utility
continues to increase at a diminishing rate and marginal utility
decreases. The total utility become maximum when marginal utility
is zero or the point of satiety. Whenwe consume further after point
of satiety the total utility fallls and marginal utility gets negative.
• Initial Utility: The utility obtained from the first unit of commodity is
called initial utility.
• Zero Utility: At a point where marginal utility becomes zero, this
point is called zero utility.
• The relationship between different types of utility can be
explained with help of the following table and graph:
 Relationship between different types of utility

Units of Appe Total Utility Marginal Utility

consumed (TU) (MU) = change in total utility
change in output

1 20 20 (Initial Utility)

2 35 35-20/2-1 = 15

3 45 45-35/3-2 = 10

4 50 5 (Positive Utility)

5 50 0 (Zero Utility)

6 45 -5 (Negative Utility)
 Relationship between different types of utility
• RELATIONSHIP BETWEEN TU AND MU:
• Total utility increases as long as marginal utility is positive but at
a diminishing rate because marginal utility is diminishing
• Marginal utility diminishes throughout
• When marginal utility is zero then total utility is maximum. It is
the point of stiation or point of maximum possible utility or
staisfiction
• When marginal utility gets negative then total utility decreases
• Marginal utility is the rate of change of total utility or it is the
slope of total utility curve
• Marginal utility can be positive, negative and zero
 Theories for compherension or
understanding of consumer behaviour
• There are two main theories or approaches for compherension or understanding
of consumer behaviour:
• (1) Cardinal Approach or Utility Approach
• (2) Ordinal Approach or Indifference Curve Approach

• Now, we study these approaches in detail

• (1) Cardinal Approach or Utility Approach:
• Cardinal Approach developed over the years with signaficant contribution from
Gossen (1854), Jevons (1871), Walras (1874) and finally Marshall (1890).
• The founder of the cardinalist approach assumed that utility is cardinally
measurable like length, weaight, and volume of different objects. They even
invented a unit of measurement called util and they assumed that utility
obtained by a consumer from a good or service can be expressed in cardinal
numbers like 1,2, 3, 4 etc.
 (1) Cardinal Approach or Utility Approach
• Cardinal approach or utility approach again consists of two laws
through which we can compherend or understand consumer
behaviour.
• (a) Law of diminishing marginal utility (Gossen’s First Law)
• (b) Law of equi-marginal utility (Gossen’s Second Law).

• (a) Law of diminishing marginal utility (Gossen’s First Law)

• Law of diminishing marginal utility is a fundamental law in
economics. Many economic theories are based on this law.
• Law of diminishing marginal utility states that, if other thing
remaining constant and a consumer increase his consumpmarginal
utility obtained from every new unit of commodity will be less than
the marginal utility of previous unit of a commodity then the.
• For example a person can get more marginal utility from consuming
the first unit of apple then the second and his marginal utility
decreases from more and more consumption of apples.
 (a) Law of diminishing marginal utility (Gossen’s First Law)

• Other factors remaining constant or Assumptions of law of

diminishing marginal utility:
• Commodities are homogeneous
• There is no gap between consumption of different units or
continous consumption
• Every consumer wants to maximize utility
• The taste and preferences of the consumer are remains the
same during the period of the consumption
• Marginal utility of money remains the same.
• The law of diminishing marginal utility can be explained with
the help of the following following example, a table and
diagram:
 (a) Law of diminishing marginal utility (Gossen’s First Law)

No of Apples Total Utility (TU) Marginal Utility

Consumed (MU) = change in total utility
Change in output

1 6 6
2 11 11-6/2-1= 5
3 15 15-11/3-2= 4
4 18 3
5 20 2
6 20 0
7 19 -1
 (a) Law of diminishing marginal utility
(Gossen’s First Law)
• Table 1 shows the relationship between the quantities of apple consumed,
the total utility of consumer for apple consumed and the marginal utility
of each additional unit of apple consumed. It is important to note that as
the number of apple consumed increases, total utility also increases but at
a diminishing rate and marginal utility of each additional unit of apple
consumed decreases.
• In the given above diagram figure A shows total utility. As we consume
more and more of apple total utility increases but at a decreasing rate,
reaches to the maximum level it start to fall.
• Simlarly, figure B shows marginal utility. The first unit of apple gives the
consumer maximam marginal utility, the second less than the first one and
so on. Similarly the additional or marginal utility or satisfiction decreases
with every increase in cosumption of more and more number of apples.
• When total utility is at maximum level, marginal utility is at the lowest
point as shown in the given figure.
 (b) Law of Equi-Marginal Utility (Goseen”s Second Law)
• Law of equi-marginal utility is developed with a view to extend
law of diminishing marginal utility.
• Law of equi-marginal utility states that the consumer has to spend
his given income on various commodities for the maximization of
his total utility on one hand and equilizing his marginal utility of
different commodities on the other hand in order to get
maximum possible satisfiction or utility.
• This law has eliminated the defect of law of diminishing marginal
utility, which explains that the behaviour of the consumer is that
he spend his income on a particular (one) commodity at each
time but in real life, consumer normally spends his income on
more than one commodity at a time.
• Law of equi-marginal utility can be explained with the help of an
example and a table as follows:
 (b) Law of Equi-Marginal Utility (Goseen”s Second Law)

Units of money spend Marginal Utility of Apple Marginal Utility of Banana

In (RS)
1 30 25

2 25 20

3 20 18
4 18 15

5 16 10

6 13 5

7 9 2
 (b) Law of Equi-Marginal Utility (Goseen”s Second Law)

• When consumer spends RS. 4 on Apple and RS. 3 on Banana

• Total Utility (TU) = ( 30 + 25 + 20 + 18 ) + ( 25 + 20 + 18 )
• TU = 93 + 63 = 156
• Now when consumer spends RS. 3 on Apple and RS. 4 on Banana
• Total Utility (TU) = ( 30 + 25 + 20 ) + ( 25 + 20 + 18 + 15 )
• TU = 75 + 78 = 153
• According to law of equi-marginal utility consumer will be in
equilibrium or will be maximizing his utility or satisfiction when
his marginal utility from both the goods will be equal and he
spend all of his available income, his total utility at that point will
be maximum.
• MUA =MUB and Total utility is maximum.
• MUA/PA = MUB/PB
 EQUILIBRIUM OF CONSUMER UNDER CARDINAL APPROACH
• CONSUMER EQUILIBRIUM: When consumer makes choices about the
quantity of goods and services to consume, it is presumed that their objective
is to maximize total utility. In maximizing total utility, the consumer faces a
number of constraints, the most important of which are the consumer
income, the prices of goods and services that consumer want to consume. The
consumer effort to maximize total utility, subject to these constraints, is
referred to as consumer equilibrium.
• OR Consumer equilibrium means when consumer is getting maximum possible
utility or satisfiction.

• EQUILIBRIUM OF CONSUMER UNDER CARDINAL APPROACH:

• We know that under cardinalist approach there are two laws. i.e law of
diminishing marginal utility and law of equi-marginal utility.
• Under this approah for determining consumer equilibrium the rules of law of
diminishing marginal utility are used in case of one commodity. And
determining consumer equilibrium in case of more more than one commodity
the rules of law of equi-marginal utility are applied as follows:
 EQUILIBRIUM OF CONSUMER UNDER CARDINAL APPROACH
• EQUILIBRIUM IN CASE OF SINGLE GOOD:
• Under the condition of single commodity (x) the consumer is in equilibrium when
the marginal utility of good x is equal to price of Good x.
• That is, MUx = Px
• If MUx > Px; the consumer can increase his welfare or satisfaction by purchasing
more units of x.
• If MUx < Px; the consumer can increase his total satisfaction by cutting down the
quantity of x.

• EQUILIBRIUM IN CASE OF MORE THAN ONE COMMODITY:

• If there are more commodities, the condition for equilibrium of the consumer is
the equality of the ratios of the marginal utilities of the individual commodities to
their prices. That is,
• MUx/Px = MUy/Py = MUn/Pn = λ
• Where λ denotes the marginal utility of the last rupee spent on each good.
• When MUx/Px > MUy/Py, then the consumer will start subsituting commodity Y
with commodity X, causing MUx to fall and MUy to rise. Thus, he will continue
until MUx/Px equals MUy/Py.
 EQUILIBRIUM OF CONSUMER UNDER CARDINAL APPROACH
• Conversely, when MUx/Px < MUy/Py, then the consumer will start subsituting
commodity X with commodity Y, causing MUy to fall and MUx to rise. Thus, he
will continue until MUx/Px equals MUy/Py.
• Example: Let the price of goods x and y be RS. 2 and RS. 3 respectively and
consumer has RS. 24 to spend on the two goods. He gets marginal utilities
from the two goods x and y which have been given in the following table. How
much quantity of two goods the consumer has to purchase in his given income
so that he can be in equilibrium or can get maximum possible utility or
satisfaction?
UNITS OF GOODS CONSUMED MUx MUy
1 20 24
2 18 21
3 16 18
4 14 15
5 12 9
6 10 3
 EQUILIBRIUM OF CONSUMER UNDER CARDINAL APPROACH
• Solution: Since Px = RS. 2; Py = RS. 3 and his Income = RS. 24.
• The condition for consumer’s equilibrium is- 𝑀𝑈𝑥/ 𝑃𝑥 = 𝑀𝑈𝑦/ 𝑃𝑦 for two
goods x and y.
• So we calculate 𝑀𝑈𝑥/ 𝑃𝑥 and 𝑀𝑈𝑦/ 𝑃𝑦 in the following table:

UNITS OF GOODS 𝑀𝑈𝑥/ 𝑃𝑥 𝑀𝑈𝑦/ 𝑃𝑦

CONSUMED
1 20/2 = 10 24/3 = 8

2 18/2 = 9 21/3 = 7

3 16/2 = 8 18/3 = 6

4 14/2 = 7 15/3 = 5
5 12/2 = 6 9/3 = 3

6 10/2 = 5 3/3 = 1
 EQUILIBRIUM OF CONSUMER UNDER CARDINAL APPROACH

• By looking at the above table, it will become clear that the

equilibrium condition in case of two goods ( 𝑀𝑈𝑥/ 𝑃𝑥 = 𝑀𝑈𝑦/ 𝑃𝑦 ) is
satisfied at different units.
• Since consumer has to spend his total income of RS. 24 on the
two goods.
• He will be in equilibrium when he will buy 6 units of good X and 4
units of good Y.
• so that his total income spent (6*2+ 4*3= 24) on the two goods
will exhaust and gets maximum satisfaction
 (2) ORDINAL APPROACH OR INDIFFERENCE CURVE APPROACH

• (2) ORDINAL APPROACH OR INDIFFERENCE CURVE APPROACH:

• The cardinal approach has been severely criticised for its
assumptions. On this background F. Y. Edgeworth (1881), Vilfredo
Pareto (1906), E. E. Slutsky (1915) derived consumer’s
equilibrium with the help of indifference curves.
• Ultimately J. R. Hicks and R.G.D. Allen presented a scientific
treatment to the consumer theory on the basis of ordinal utility,
graphically represented by indifference curves.
• According to ordinal approach utility is purely subjective and
immeasurable, utility can not be measured in cardinal numbers
rather it can be ranked or ordered on the basis of preferences.
• This approach based the theory of utility on the scale of
preferences and ordinal measurement of utility.
 (2) ORDINAL APPROACH OR INDIFFERENCE CURVE APPROACH
• ASSUMPTIONS OF ORDINAL APPROACH OR INDIFFERENCE CURVE
APPROACH:
• This approach is based on the following assumptions:
• Utility can be ordinally measured:
• The consumer can rank or order various commodities or combination of
commodities in accordance with the satisfiction or utility that he derives from
them.
• Rationality of consumer:
• Consumer is rational. He want to obtain maximum satisfiction or utility, given
his income and prices of goods and services.
• Fixed Income:
• Consumer has a given and fixed amount of income to spend on the goods and
services. Thus, consumer has to choose to spend his given income on either of
the two goods or a combination of the two goods.
• Homogeneous:
• All the units of goods are homogenous or similar.
 (2) ORDINAL APPROACH OR INDIFFERENCE CURVE APPROACH
• Additive Utilities or Total Utilities:
• The total utility of the consumer depends on the quantities of the good
consumed.
• Or the quantities of of the commodities which are consumed will determine the
total utility of the consumer.
• Consistancy of choices:
• The choice of the consumer is consistant in the sense that if he chooses
combination of good A over good B in one period, he will not choose good B
over good A in another period.
• OR if good A is preffered to good B in one time
• Then good B will not be preffered to good A in another time.
• Transitivity of consumer choices:
• If consumer prefer combination of good A to good B, and preffer good B to
good C, then, it can be concluded that he prefers good A to good C.
• OR if good A is preffered to good B, and good B is preffered to good C, then he
must preffer good A to good C.
 (2) ORDINAL APPROACH OR INDIFFERENCE CURVE APPROACH
• Non-Satiety:
• This assumption means that consumer preffer a large quantity of all the goods
over smaller quantities of the same good.
• Indifference Curve:
• It shows various combinations of the two goods which give equal satisfaction
or utility to the consumer.
• An indifference curve is the locus of points which yield the same utility (level of
satisfaction) to the consumer, so that he is indifferent as to the particular
combination he consumes.
• Combinations of goods situated on an indifference curve yield the same utility.
• Combinations of goods lying on a higher indifference curve yield higher level of
satisfaction or utility and are preferred.
• Indifference map:
• An indifference map shows all the indifference curves which rank the
preferences of the consumer.
(2) ORDINAL APPROACH OR INDIFFERENCE CURVE APPROACH
 (2) ORDINAL APPROACH OR INDIFFERENCE CURVE APPROACH
• Properties/ features of the indifference curves:
• 1. Downward sloping to the right (an indifference curve has a negative slope,
which denotes that if the quantity of one commodity (y) decreases, the
quantity of the other (x) must increase, if the consumer is to stay on the same
level of satisfaction).
 (2) ORDINAL APPROACH OR INDIFFERENCE CURVE APPROACH
• 2. Indifference curves are convex to the origin. It means the slope of an
indifference curve (marginal rate of substitution of X for Y or MRSXY)
decreases. This implies that the commodities can substitute one another, but
are not perfect substitutes. If the commodities are perfect substitute the
indifference curve becomes a straight line with negative slope. If the
commodities are complements the indifference curve takes the shape of a
right angle or L shaped.
• Marginal Rate of Subsitution (MRS) is the slope of the indifference curve.
• It is the rate at which consumer is willing to subsitute one good for another
good while reaming equally stisfied or reamining on the same indifference
curve.
 (2) ORDINAL APPROACH OR INDIFFERENCE CURVE APPROACH
• Marginal Rate of Substitution (MRS):
• The negative slope of an indifference curve at any point is called the marginal
rate of substitution of the two commodities, x and y, and is given by the slope
of the tangent at that point:
• Slope of indifference curve = (-) 𝑑𝑦 / 𝑑𝑥 = MRS x,y = 𝑀𝑈𝑥/ 𝑀𝑈y

• The marginal rate of substitution of x for y is defined as the number of units of

commodity y that must be given up in exchange for an extra unit of commodity
x so that the consumer maintains the same level of satisfaction or utility.
 (2) ORDINAL APPROACH OR INDIFFERENCE CURVE APPROACH

• Budget Line (price- income line, outlay line, expenditure line,

etc):
• The budget line shows all those combinations of two goods which
consumer can buy by spending his money income on two goods at
their given prices.
• OR budget line shows all the consumption possibilities availabe to
the consumer given his income and prices of the goods.
• Budget line equation:
• Income = Price of good X × Quantity of good X + Price of good Y × Quantity of
good Y
• OR, M = PxX + PyY

• The Slope of the Budget line = 𝑃𝑥/ 𝑃y

 (2) ORDINAL APPROACH OR INDIFFERENCE CURVE APPROACH
• Budget Equation M = PxX + PyY
• Where M represent inccome, P is price, X represent quantities of
good X and Y represent quantities of good Y.

• Example, suppose if income is Rs.100, Px = 10 and Py = 20, then

• If consumer spends all of his income of Rs. 100 on good X, then
he can consume
• X = M/Px = 100/10 = 10 quantities of good X.
• And if he spends all of his income of RS. 100 on good Y then he
can consume
• Y = M/Py = 100/20 = 5 quantities of good Y.
 (2) ORDINAL APPROACH OR INDIFFERENCE CURVE APPROACH

• EQUILIBRIUM OF CONSUMER UNDER ORDINAL APPROACH OR INDIFFERENCE

CURVE APPROACH
• The consumer is in equilibrium when he maximizes his utility, given his income
and the market prices.
• Two conditions must be fulfilled for the consumer to be in equilibrium under
ordinal approach or indifference curve approach:
• 1. A given budget line must be tangent to an indifference curve, or marginal
rate of substitution of X for Y (MRSXY) must be equal to the price ratio of the
two goods 𝑃𝑥 /𝑃𝑦 .
• That is, MRSXY = 𝑀𝑈𝑥/ 𝑀𝑈𝑦 = 𝑃𝑥/ 𝑃𝑦 (necessary condition).
• 2. The indifference curve must be convex to the origin at the point of tangency
or marginal rate of substitution of X for Y must be diminishing (sufficient
condition). As shown in the following figure:
EQUILIBRIUM OF CONSUMER UNDER ORDINAL APPROACH OR INDIFFERENCE CURVE APPROACH