What Does the Law of Diminishing Marginal Utility Explain?

Reviewed by Robert C. KellyFact checked by Yarilet PerezReviewed by Robert C. KellyFact checked by Yarilet Perez

In economics, the law of diminishing marginal utility states that the added benefit of consuming more of a product or service declines as its consumption increases. That is, the satisfaction or utility they derive from the product wanes as they consume more and more of it.

For example, a consumer might buy a certain brand of chocolate for a while. Soon, they find that their enjoyment of the chocolate decreases and they will look for an alternative.

Key Takeaways

• The law of diminishing marginal utility explains that as a person consumes more of an item or product, the satisfaction (or the utility) they derive from it wanes.
• Demand curves are downward sloping in microeconomic models as each additional unit of a product or service is put toward a less valuable use.
• There are several laws of diminishing marginal units, each of which is tangentially related across the life cycle of a product.

Understanding the Law of Diminishing Marginal Utility

An individual consumer demonstrates the law of diminishing marginal utility every time he or she consumes a product. The first unit that is consumed satisfies the consumer’s greatest need. The second unit results in a lesser degree of satisfaction, and so on.

Consider an individual on a deserted island who finds a case of bottled water. That person might drink the first bottle, indicating that satisfying thirst was the most important use for the water. The second bottle might be used for bathing, and the rest might be saved for use later.

Important

Consumption of a product may begin with increasing marginal utility for every unit consumed followed by decreasing marginal utility for later units.

In this scenario, the person is indicating a clear priority for the use of the water. This is called ordinal time preference.

It also helps to explain why demand curves are downward sloping in microeconomic models since each additional unit of a product or service is put toward a less valuable use.

Applications for Diminishing Marginal Utility

The law of diminishing marginal utility is not specific to any industry. Its broad concept relates to different sectors in different ways.

In general, it is statistically proved that consumers exert more caution and attention when faced with higher utility propositions. Here are some ways diminishing marginal utility progresses along a business process.

Sales

Sales techniques for each customer are altered depending on the consumer’s current marginal utility potential. Consider a salesperson who is selling you your first cell phone. With your marginal utility very high for any working cell phone, this is an easy sale.

If you already own a cell phone, the tactics used by the salesperson will differ. A second phone for work, a backup phone, or an upgrade might be suggested.

Though not directly linked to the saying “read the room,” the concept of diminishing marginal utility is very relatable, as not every client will associate the same utility with a given product. A phone with all the latest bells and whistles might be attractive to many consumers while turning off others.

Manufacturing and Inventory Management

Companies must be mindful of the law of diminishing marginal utility when planning future production schedules. They can’t rely entirely on historical manufacturing levels, as changes in consumer demand will impact the number of units of a product that are needed.

This concept is especially important for companies that carry inventory. The law of diminishing marginal utility can produce a very steep drop-off.

Again, consider the use of cell phones. Many people only need one; there is an extremely large jump in utility from owning zero cell phones to owning one cell phone. Should a market become quickly saturated with people who all own cell phones, a company can be stuck holding inventory.

Marketing

Marketers want to keep marginal utility high for the products that they sell. A product is consumed because it provides satisfaction, but too much of a product might mean that the marginal utility reaches zero because consumers have had enough of a product and are satiated.

Of course, marginal utility depends on the consumer and the product being consumed.

This is an important concept for companies that have a diverse product mix. Imagine your favorite coffee shop. If the shop only marketed a single product, consumers would likely grow tired of that product; its marginal utility would diminish.

Marketing professionals must juggle a variety of new product introductions to keep consumers interested in numerous products.

Note

Some units may have zero marginal utility for the second unit consumed. For example, if you already own a copy of a magazine, there’s no utility in owning a second copy. In these situations, the marginal utility has decreased 100% between units.

Diminishing Marginal Utility vs. Other Measurements

The law of diminishing marginal utility should not be confused with other laws of diminishing marginal units. Diminishing marginal utility focuses strictly on the consumer experience and the decreasing nature of demand over time. Meanwhile:

• Diminishing marginal productivity focuses on the manufacturing aspect and the decreasing nature of production over time.
• Diminishing marginal return focuses on the merchant and the decreasing nature of profits over time.

Marginal Productivity

The law of diminishing marginal productivity states that the efficiency gained on slight process improvements may yield incremental benefits for additional units manufactured.

An example of diminishing marginal productivity is related to the labor costs for manufacturing a car.

It is more immediately profitable to lay off 10% of the manufacturing staff, and the manufacturing line may make do with the remaining resources for the first few vehicles. However, after a while, the marginal manufacturing benefit decreases due to a shortage of staff.

Marginal Revenue

The law of diminishing marginal revenue states that once maximum efficiency is reached, the amount of profit earned per unit will decrease. This can be due to demand saturation (i.e., diminishing marginal utility for consumers) or escalating production costs (i.e., diminishing marginal product for production).

All of these laws are related to the concept of economies of scale.

What Is Meant by Marginal Utility?

Marginal utility is the benefit a consumer receives by consuming one additional unit of a product.

The benefit received for consuming every additional unit will be different, and the law of diminishing marginal utility states that this benefit will eventually begin to decrease.

What Is the Importance of the Law of Diminishing Marginal Utility?

The law of diminishing marginal utility dictates many aspects of how a company operates. A company must adjust how many goods it carries in inventory and its marketing and sales tactics to reduce the impact of diminishing marginal utility.

A company’s marketing strategy often revolves around balancing the marginal utility across product lines.

Can Marginal Utility Be Zero?

Yes, marginal utility not only can be zero but it can drop below zero.

Consider a summer barbeque. If you haven’t had breakfast yet, that first hot dog will be delicious and the second one won’t be bad either. After a while, you’ll become averse to eating hot dogs and may even get sick (have negative utility) if you continue to eat more.

The Bottom Line

There are exceptions to the law of diminishing marginal utility. For example, the law does not hold true for collectors, who might be equally excited or more excited about adding a tenth rare coin to a collection.

Still, the law of diminishing marginal utility helps explain why consumers are generally less and less satisfied with each additional unit of a product that they consume.

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