The Futility of Utility – Rule for Maximizing The Utility of Consumption

In equation the top half of the fraction represents the marginal profit (marginal utility) gained from the consumption of the second product and the bottom half the marginal profit (marginal utility) gained from the consumption of the first product. This is the well-known utility maximizing rule. In the utility theory it is as follows – “The consumer will receive maximum satisfaction or utility acquiring goods at market prices when the last dollar spent on acquiring a product brings the same marginal utility as every last dollar spent on acquiring other products.” Equation is a condition which, when fulfilled, will result in the budget line touching the fixed income curve (indifference curve). On the one hand the gradient of the line determines the price ratio of the two products. On the other hand the gradient of the curve at the point of tangency is defined by the relation The minus sign in equations and means that the tangent line always has a negative gradient. The utility curve cannot have any peculiarities in terms of flexion or discontinuity. Otherwise there would always be an area of the curve in which the tangent line will have a positive gradient and the price ratio of the products will become indefinite (the tangent line will intersect the axes in negative regions). In our case the utility maximizing rule for consumption may formulated as follows: “The consumer receives maximum profit if the last dollar spent on acquiring a product gives a profit value equal to the loss value from the reduction in consumption of the other product by one dollar”. This is obvious because in order to gain additional profit, the consumption of one product must be increased by one dollar and the consumption of the other product must be reduced by the same amount, if the additional profit from the increase in consumption of the first product is higher than the loss from the reduction in consumption of the second product.
An ordinary consumer can achieve maximum profit by observing and analysing three different indicators: total profit, average profit and marginal profit. The consumer naturally chooses one of these indicators, but may simultaneously evaluate two or three indicators. As his or her experience and intuition suggests, this is exactly what the consumer does.
In the examples given above the buyers made conclusions based on average profit, but, with the same success, they could have made conclusions based on marginal or total profit. I will give an example in order to explain how this happens in real life. Let us suppose that a young man has been studying at a university or any other educational institution for four years. The tuition fees are $47,500 per year. Should he continue studying or not? In order to answer this question he may use three different methods. The first method is based on the calculation of the average profit. Let us suppose that he wishes to work actively for 40 years after completing his studies. He anticipates that after four years of studying his income will be $35,000 per year. Before studying his salary could have been $30,000 per year.
As this figure is greater than the annual tuition fees, he decides to continue studying. One year later he does his calculations again. Having contacted potential employers he determines that his salary may now be $36,000 per year.
Each year of study brings an average of $47,000, which is less than the cost of study. Therefore he stops studying. The student’s friend, who has always been good at mathematics since school, is more anxious about figures. His method of evaluation is to calculate the marginal profit. After three years of studying he calculated that his income at the time could be $33,800 per year. After four years of study he works out that the last year of study will bring him a profit of:
£35.000 – 33.800) X 40 = 48.000($).
This is more than the cost of the final year of study ($47,500). Perhaps he may continue to study, but he will be well aware that his studies are coming to an end. The fifth year of studies will give him £36.000 – 35.000) X 39 = ag.OOOO),

which is considerably less than the cost of the final year of studies. His calculations are more accurate and therefore he will most likely terminate his studies in the first half of the academic year. A third student is a little absent-minded and very interested in poetry. In order to come to a decision he calculates his total profit and total expenses. After four years they are: $10,000 is not a bad incentive to continue studying. After five years of study the total profit and total expenses will be: (36.000 – 30.000) X 39 = 234.000($), 47.500 X 5 = 237.500($).
The profit has become less than the expenses and the time has come to say goodbye to his student friends. Fortunately he did not turn out to be so absent-minded. He took into consideration that every year of study takes away one year of production activity. If he did not take this into consideration the profit would be: (36.000 – 30.000) X 40 = 240.000, and the number of students at the university would increase by one. This is more or less how people make decisions. Of course, they do not always ring around potential employers, they do not always operate with accurate figures and quite often they do not calculate anything at all. People rely on their personal experience and the experience of others and sometimes they simply use their intuition. Nothing bad happens as a result of this, houses continue to be built, technologies continue to be improved and the standard of living rises. The economy stays within a state of equilibrium. A mechanism such as inflation is able to easily compensate for any irrational behaviour from consumers or producers. If it turns out that too many young people are unnecessarily continuing studying, then, first of all, this will increase the cost of studying. Secondly, this decision will lower the potentially possible level of production of goods and services, therefore their prices may increase. In other words, in an economy such as this there will be a slight increase in inflation. If young people finish their studies early too often, this is likely to bring about a reduction in the cost of studying and a certain short-term increase in goods production. The level of inflation will decrease slightly. Students will take into consideration the experience of the older generation and many will arrive at the conclusion that they should finish university at the beginning of the fifth year. In reality different people require different lengths of study. This depends on the level of previous education, diligence, the number of additional lessons and much more. Therefore, most people choose the same period of study, but as time goes on each of them receives a certain amount of additional knowledge.
Let us briefly talk of producers. A certain firm owns the rights to develop and extract oil at a certain oil field. $47,500,000 are required each year in order to expand extraction and drill additional wells. After four years of operation of the oil field the additional wells generated a profit of $48,000,000 in the final year. The additional profit is greater than the additional costs and therefore additional wells continue to be drilled. After the fifth year of extraction the field reserves deplete and the additional profit is $39,000,000. The drilling of additional wells is ceased immediately. How does this last example with the oil company differ from the previous example examining the behaviour of university students? The behaviour of consumers and producers follows the same objective – to maximize their profit.
I will now briefly cover the main conclusions.