demands are better understood by examining the mechanism used by households in making consumer choices. Consumption choices made by households are determined by two factors: constraints and preferences. Consumer choices made by any household are limited by that households income and the price of the desired goods or services purchased. Marginal utility theory assumes that a household has a given income to spend and that it has no influence on the prices of goods or services it purchases.A representation of this theory follows:House A has a monthly income of $100.00 and is constrained by that limit. House A spends its dollar resources on only two items books and beverages. Books cost $6.00 each. Beverages cost .50 each or $3.00 a six pack. House A can purchase as many as ten six packs a month or five books a month. There are many other purchase combinations conceivable. Consumption possibilities can be visualized similar to the PPF, and the structure of Figure 1 is an excellent representation of such a consumption possibilities model. House A must decide how to divide the monthly income between books and beverages. The likes and dislikes of the members of that household drive those purchasing decision. This is referred to as preference. Marginal utility theory uses the highly abstract concept of utility to describe those preferences. The concept of utility can best be explained with an analogy.Take, for example, the concept of temperature. Its easy to understand the difference between feeling hot and cold, but hot and cold are not something observable. Water turns into steam when hot enough or ice when cold enough and those are observable phenomena. In order to predict when such changes will occur an instrument can be constructed. Such an instrument is called a thermometer. The scale on the thermometer is the essence of temperature. The units used to measure that temperature are arbitrary. That is, the weight and valu...
