Short on time? This page is the recap. For explanations, graphs and worked examples, use the full study guide.
Recap
- Marginal = one more unit. Marginal analysis compares the marginal benefit (MB) of one more unit with its marginal cost (MC).
- The optimal quantity is where MB = MC. This is also where total net benefit (total benefit − total cost) is largest.
- Sunk costs (already paid, cannot be recovered) and benefits already fixed by past choices do not change MB or MC, so they do not change the optimal quantity.
- Consumer choice model: consumers have limited income, face given prices, know their preferences and choose to maximize total utility.
- Diminishing marginal utility: each extra unit adds less satisfaction than the one before.
Key relationships
| Relationship | How to use it |
|---|---|
| MU = change in TU ÷ change in quantity | With one unit at a time, MU = next TU − this TU |
| TU = sum of the MUs | Add the MU of every unit consumed |
| Net benefit = TB − TC | Largest where MB = MC |
| MU per dollar = MU ÷ P | Compare goods with different prices |
| Utility maximized: MU_A ÷ P_A = MU_B ÷ P_B, all income spent | Both conditions are needed |
| Situation | What to do |
|---|---|
| MB of next unit > MC | increase the activity |
| MB of last unit < MC | decrease the activity |
| MU_A ÷ P_A > MU_B ÷ P_B | buy more A and less B |
| Price of a good is zero | consume until MU = 0 (TU at its peak) |
| A sunk cost is added or removed | no change in quantity |
Assumptions
- Income is limited and prices are given: the consumer faces a constraint.
- The consumer is rational and aims for the greatest total utility.
- MU diminishes as more of a good is consumed.
- Indifference curves are not part of the course.
Mistakes to avoid
- Saying total utility falls when marginal utility falls. TU still rises while MU > 0.
- Comparing MU instead of MU per dollar when prices differ.
- Forgetting the budget condition: equal ratios must come with all income spent.
- Letting a sunk cost change the answer (“I’ve paid, so I’ll do more”).
- Stopping where MB = 0 when each unit has a price.
- Using total or average values where the question asks about the next unit.
Quick self-check
- TU is 10, 18 and 24 utils for 1, 2 and 3 cups. What is the MU of the 3rd cup? (24 − 18 = 6 utils)
- The last unit of A gives 40 utils at $5; the last unit of B gives 30 utils at $2. What should the consumer do? (A gives 8 utils per $, B gives 15: buy more B and less A.)
- A non-refundable $25 membership is paid. Does it change how many classes you should attend? (No. It is sunk, so MB and MC of each class are unchanged.)
Next: practice questions.