Marginal and Marginalism

… a core concept in Economic Analysis and Atlas102

MarginalVsAverageCostConcept description

The Economist defines marginal as the difference made by one extra unit of something:

  • Marginal revenue is the extra revenue earned by selling one more unit of something.
  • The marginal price is how much extra a consumer must pay to buy one extra unit.
  • Marginal utility is how much extra utility a person gets from consuming (or doing) an extra unit of something.
  • The marginal product of labour is how much extra output a firm would get by employing an extra worker, or by getting an existing worker to put in an extra hour on the job.
  • The marginal propensity to consume (or to save) measures by how much a household’s consumption (or savings) would increase if its income rose by, say, $1.
  • The marginal tax rate measures how much extra tax you would have to pay if you earned an extra dollar.

The Economist goes on to say:

“The marginal cost (or whatever) can be very different from the average cost (or whatever), which simply divides total costs (or whatever) by the total number of units produced (or whatever). A common finding in microeconomics is that small incremental changes can matter enormously. In general, thinking “at the margin” often leads to better economic decision making than thinking about the averages.”

The marginalist revolution

Steven Rhoads (reference below) notes marginalism is a fundamental economic insight that even Adam Smith had not quite figured out:

“Adam Smith struggled with what came to be called the paradox of “value in use” versus “value in exchange.” Water is necessary to existence and of enormous value in use; diamonds are frivolous and clearly not essential. But the price of diamonds – their value in exchange – is far higher than that of water. What perplexed Smith is now rationally explained in the first chapters of every college freshman’s introductory economics text. Smith had failed to distinguish between “total” utility and “marginal” utility. The elaboration of this insight transformed economics in the late nineteenth century, and the fruits of the marginalist revolution continue to set the basic framework for contemporary microeconomics.

“The marginalist explanation is as follows: The total utility or satisfaction of water exceeds that of diamonds. We would all rather do without diamonds than without water. But almost all of us would prefer to win a prize of a diamond rather than an additional bucket of water. To make this last choice, we ask ourselves not whether diamonds or water give more satisfaction in total, but whether one more diamond gives greater additional satisfaction than one more bucket of water. For this marginal utility question, our answer will depend on how much of each we already have. Though the first units of water we consume every month are of enormous value to us, the last units are not. The utility of additional (or marginal) units continues to decrease as we consume more and more. … Economists believe that sensible choice requires comparing marginal utilities and marginal costs.”

Atlas topic, subject, and course

The Study of Economics (core topic) in Economic Analysis and Atlas102 Economic Analysis.

Sources

The Economist, Economics A-Z, at http://www.economist.com/economics-a-to-z/m#node-21529419, accessed 30 April 2016.

Steven E. Rhoads, Marginalism, The Concise Encyclopedia of Economics, at http://www.econlib.org/library/Enc/Marginalism.html, accessed 2 May 2016.

Page created by: Ian Clark, last modified 30 April 2016.

Image: Supriya Guru, The Relation between the Average and Marginal Cost Curve, at http://www.yourarticlelibrary.com/economics/cost-curves/the-relation-between-the-average-and-marginal-cost-curve/36990/, accessed 30 April 2016.