How does marginal utility theory explain the law of demand?

The marginal utility theory explains the law of demand by analyzing the relationship between the marginal utility derived from consuming additional units of a good and the willingness to pay for those units. According to the law of demand, as the price of a good increases, the quantity demanded decreases, and vice versa, assuming all other factors remain constant.

Marginal utility refers to the additional satisfaction or benefit gained from consuming one more unit of a good. The theory suggests that as individuals consume more units of a good, the marginal utility derived from each additional unit diminishes. This is known as the law of diminishing marginal utility.

To understand how this relates to the law of demand, we need to consider the concept of consumer surplus. Consumer surplus is the difference between the maximum price a consumer is willing to pay for a good and the actual price they pay. Consumers aim to maximize their utility or satisfaction by allocating their limited income across different goods and services.

When the price of a good decreases, consumers can afford to purchase more units of that good, leading to an increase in their total utility. As they consume more units, the marginal utility derived from each additional unit diminishes, meaning that the consumer is willing to pay a lower price for each subsequent unit. This creates a downward-sloping demand curve, as consumers are willing to purchase more units at lower prices.

Conversely, when the price of a good increases, consumers are less willing to pay for each additional unit due to the diminishing marginal utility. As a result, they reduce their quantity demanded, leading to a decrease in total utility. This explains why the law of demand states that as the price of a good increases, the quantity demanded decreases.

In summary, the marginal utility theory explains the law of demand by highlighting the diminishing marginal utility derived from consuming additional units of a good. As the price of a good increases, consumers are less willing to pay for each additional unit, leading to a decrease in quantity demanded. Conversely, when the price decreases, consumers are willing to purchase more units, resulting in an increase in quantity demanded.