Question

If a 10-dollar bill was found lying on the sidewalk, (LO1) a) if a rich person found it, she would get more utility from what she could buy with it than a poor person b) if a poor person found it, she would get more utility from what she could buy with it than a rich person c) there is no way to determine whether a rich person or a poor person who found the money would get more utility from what she could buy with it

Short answer

In conclusion, a poor person would likely derive more utility from finding a 10-dollar bill on the sidewalk compared to a rich person. This is because each dollar holds more relative significance to a poor person, and the utility gained from the purchases made with the money would be more substantial. This showcases the concept of diminishing marginal utility of money, as the additional satisfaction gained from each additional dollar decreases as a person's income increases.

Step-by-step solution

Introduce the concept of utility

Utility is an economic term that represents the satisfaction a person receives from consuming a good or service. It is a subjective measure and can vary between individuals based on their preferences, tastes, and levels of income.

Examine the case of a rich person finding the 10-dollar bill

If a rich person found the 10-dollar bill, they would likely perceive its value as relatively low compared to their total wealth. Although they can buy something with it, the utility they gain from that purchase may be negligible compared to the utility they derive from their other consumption.

Examine the case of a poor person finding the 10-dollar bill

If a poor person found the 10-dollar bill, its perceived value would be higher compared to their total wealth. Since they have fewer resources, each dollar holds more relative significance. In this case, the poor person could use the money to buy essential items, and the utility gained from those purchases would be considerable.

Conclude the comparison of utility between the two scenarios

In comparing the utility gained from finding the 10-dollar bill between a rich person and a poor person, we can conclude that a poor person would likely derive more utility from it. This is due to the diminishing marginal utility of money, which states that as a person's income increases, the additional satisfaction they get from each additional dollar decreases.

Key concepts

Diminishing Marginal Utility

In economics, the concept of diminishing marginal utility explains how the satisfaction or benefit one gets from consuming additional units of a good decreases as they consume more of it. Think of it like eating your favorite dessert. The first bite is heavenly, the second is great, but by the fifth or sixth, you're not as thrilled as you were at the start.

This concept helps explain why a poor person might gain more utility from finding a $10 bill compared to a rich person. For someone with limited resources, every extra dollar holds significant value and can be spent on necessities improving their quality of life noticeably. In contrast, for a wealthy person, an additional $10 might not make a big difference in their overall satisfaction or lifestyle. As a result, the extra utility derived from that $10 is much smaller, showcasing the diminishing returns as one's total wealth increases.

Income Effects on Utility

Income plays a crucial role in determining utility, as it influences what people can afford and their consumption patterns. When someone gains additional income, they typically experience an increase in utility because they have more resources to satisfy their wants and needs.

• For low-income individuals, a small amount of extra money can lead to a noticeable increase in utility since they can afford more essentials or even minor luxuries they previously couldn't.
• For high-income individuals, the additional utility gained from a small increase in income is often minor since their basic needs and wants were already well satisfied.

This effect illustrates why the $10 found by a poor person leads to a greater increase in utility for them than it would for a rich person. The personal context of each individual—based on their existing income level—greatly affects how much utility they derive from extra income.

Subjective Value in Economics

Utility and value are inherently subjective in economics, meaning different people place different levels of importance on goods or money based on their personal circumstances and preferences. What's valuable to one person might be trivial to another.

When considering the $10 scenario, the subjective value comes into play by acknowledging that each person evaluates the utility of money differently. For instance, someone struggling financially might view $10 as an opportunity to buy necessities or pay off a portion of a bill, thereby having high subjective value. Conversely, for someone affluent, it might just be spare change.

• Value is not fixed and varies between individuals.
• It is influenced heavily by personal preferences, needs, and existing financial status.

Recognizing the subjectivity involved in economic value is essential for understanding why utility comparisons can vary so widely among different people.