Assignment No 2

Submit To : Maam Ayesha ismail

Submitted By: Raz Mohammad
Registration No: FA19-BBA-127
Group Members : Sadia haidari FA19-BBA-033
Wali khan FA19-BBA- 138

 The law of equi-marginal utility states that the

consumer will distribute his money income
between the goods in such a way that
the utility derived from the last rupee spend on
each good is equal. In other words, consumer is in
equilibrium position when marginal utility of
money expenditure on each goods is the same.

This law is very important in the field of

consumption because every consumer wants to
get maximum satisfaction from his limited income.
Along with those goods which consumers are
consuming presently; they also keep goods for
future consumption, so that they can get
equal utility at both the times.

This law is very important in the field of

consumption because every consumer wants to
get maximum satisfaction from his limited income.
Along with those goods which consumers are
consuming presently; they also keep goods for
future consumption, so that they can get
equal utility at both the times.
 Explanation of the Law:

In order to get maximum satisfaction out of the funds

we have, we carefully weigh the satisfaction obtained
from each rupee ‘had we spend If we find that a rupee
spent in one direction has greater utility than in
another, we shall go on spending money on the former
commodity, till the satisfaction derived from the last
rupee spent in the two cases is equal." some units of
the commodity of greater utility tor some units of the
commodity of less utility. The result of this substitution
will be that the marginal utility of the former will fall
and that of the latter will rise, till the two marginal
utilities are equalized. That is why the law is also called
the Law of Substitution or the Law of equimarginal
Utility.

Suppose apples and oranges are the two commodities

to be purchased. Suppose further that we have got
seven rupees to spend. Let us spend three rupees on
oranges and four rupees on apples. What is the result?
The utility of the 3rd unit of oranges is 6 and that of the
4th unit of apples is 2. As the marginal utility of
oranges is higher, we should buy more of oranges and
less of apples. Let us substitute one orange for one
apple so that we buy four oranges and three apples.

Example

Now the marginal utility of both oranges and apples is

the same, i.e., 4. This arrangement yields maximum
satisfaction. The total utility of 4 oranges would be 10 +
8 + 6 + 4 = 28 and of three apples 8 + 6 + 4= 18 which
gives us a total utility of 46. The satisfaction given by 4
oranges and 3 apples at one rupee each is greater than
could be obtained by any other combination of apples
and oranges. In no other case does this utility amount
to 46. We may take some other combinations and see.
Example:
This equi-marginal principle or the law of substitution
can be explained in terms of an arithmetical example. In
Table 2.6, we have shown marginal utility schedule of X
and Y from the different units consumed. Let us also
assume that prices of X and Y are Rs. 4 and Rs. 5,
respectively.

Assumption of the Law:

The law of equi-marginal utility is based on the following
assumptions;
 The consumer is a rational economic man who seeks to
maximize his total satisfaction.
 Utility is measurable in cardinal terms. 
 The consumer has a given scale of preference for the
goods in consideration. He has perfect knowledge of utility
derived. 
 Prices of goods are unchanged. 
 Income of the consumer is fixed. 
 Marginal utility of money is constant.
 Wants and goods are substitutable. 
Importance of the Law: 
The law has theoretical as well as practical utility. Theoretically it is a
useful device for analyzing the behaviour of a rational consumer.
Logically it is a convincing tool to describe the conditions of consumer
equilibrium. It opens up analytical areas; it serves as a background for
the traditional theory of value. 

The law has the following practical usefulness also: 

1. It Applies to Consumption: 
The law indicates how a consumer derives maximum satisfaction with
the help of the principal of substitution; the consumer is able to make
the best choice of his wants to gain maximum total satisfaction. It
serves as a guide to the consumers to bring about the optimum
allocation of his income and expenditure. It thus determines the
relative demand for different goods. 
2. It Applies to Production: 
To the producer the law is useful because the very principle of
substitution lies in the optimum allocation of resources. The producer
can have the most economical or optimal combination of factors of
production, when the last unit of investment expenditure brings equal
productivity to all the factors of production employed. 
3. It Applies to Exchange: 
This principle has an important bearing on the determination of value.
The scarcity of a commodity is reflected through rising prices, in an
exchange phenomenon- the market. It, thus, helps in readjustment of
resources and adjustment of demand and supply by substitution. 
4. It Applies to Distribution: 
The general theory of distribution involves the principle of
substitution. In distributing the rewards of the various agents of
production, there shares are determined by the principle of marginal
productivity. An optimum distribution is one based on the marginal
productivity of factors. This is how the law of substitution is applicable
here. 
5. It Applies to Welfare and Public Finance: 
Modern states are welfare states and consider the maximization of
social benefits in their revenue and expenditure activities. The
principle of ‘maximum social advantage’ involves the law of
substitution when it proposes that revenues must be distributed in such
a way that the last unit of expenditure brings equal welfare and
satisfaction to all classes of people.