Consider two products: Product A and Product B. The marginal utility (MU) of A is 50 and the price (P) of A is $25. The MU of B is 20 and the price of B is $5. What would a typical consumer do to...

Consider two products: Product A and Product B. The marginal utility (MU) of A is 50 and the price (P) of A is $25. The MU of B is 20 and the price of B is $5. What would a typical consumer do to maximize their utility?

Expert Answers
pnrjulius eNotes educator| Certified Educator

From the way the question is worded, it looks like we are to assume that the marginal utility of each of these goods does not diminish as we buy more; normally it would, by the Law of Diminishing Marginal Utility, but like many laws in economics, it's like the Pirate Code: More what you'd call "guidelines" than actual rules.

Given that the marginal utilities are constant, the goods are perfect substitutes, so the way to maximize utility is going to be either to spend all your money on A or spend all your money on B. (There's also a knife-edge case where your utility is exactly the same no matter how you spend your money, but that doesn't apply here.)

The way to tell which to buy is to find the ratio of marginal utility to price. Product A has a marginal utility of 50, er... utility units are weird... let's call them utilons, and a price of $25, so it provides 2 utilons per dollar. Product B has a marginal utility of 25 utilons and a price of $5, so it provides 5 utilons per dollar. Thus, product B is the better deal.

You can check this by seeing what would happen if we spent all our money on A versus B. Suppose we have $100 to spend. We could either buy 4 units of A, which would give us 200 utilons; or we could buy 20 units of B, which would give us 1000 utilons. We're obviously better off buying B.