Microeconomics - Term Paper Example

onsumption of services and goods by a consumer, the theory is an attempt to measure the general satisfaction a consumer derives from the consumption of a good, the utility theory also states the law of diminishing marginal utility, this concept states that as the number of units consumed by a consumer increase then the marginal utility level keeps on dropping until it reaches zero. For example the utility gained by consuming the first unit of a good or service is higher than the utility gained from the consumption of the second unit, this shows that as we increase the number of units we consumed the utility level keeps on declining.

From the chart above it is evident that the consumption of more units of a good will increase the level of utility, however marginal utility declines as the number of units increase, the above diagram shows the total utility curve and the marginal utility curve, the point labeled 0 is the optimal point of consumption for a consumer whereby a consumer should consume to this point where the marginal utility value is equal to zero. For a rational consumer the optimal consumption of a good wil also be determined by the cost of price of goods and services and also their income, if we assume that a cionsumer consume two goods with different utility levels and that his income is 200 dollars, also assume that we have good A which costs 20 dollars and good b which costs 10 dollars then we can formulate a budget line by determining the maximum number of goods a consumer will consume, for good A the maximum number of units the consumer can purchase is 200/20 = 10 for good B the maximum number of units the consumer can purchase is 200/10 = 20, therefore we derive the budget line as follows: The chart shows the indifference curve, the higher the indifference curve the higher the level of utility derived and the lower the indifference curve the lower the level of utility derived.

From our above example we determine the optimal level of consumption