[Joseph_E._Stiglitz,_Carl_E._Walsh]_Economics(Bookos.org) (1)

Normally, demand curves are downward sloping. As the price is lowered, consumers
are better off and so consume more of the good (the income effect); and the
lower relative price induces a further increase in consumption (the substitution effect).
Utility and the Description of
Preferences
We have seen that people choose a point along their budget constraint by weighing
the benefits of consuming more of one good against the costs—what they have to
forgo of other goods. Economists refer to the benefits of consumption as the utility
that individuals get from the combination of goods they consume. Presumably a
person can tell you whether or not he prefers a certain combination of goods to
another. Economists say that the preferred bundle of goods gives that individual a
higher level of utility than the other bundle of goods he could have chosen. Similarly,
economists say that the individual will choose the bundle of goods—within the budget
constraint—that maximizes his utility.
In the nineteenth century, social scientists, including the British philosopher
Jeremy Bentham, hoped that science would someday develop a machine that could
actually measure utility. A scientist could simply hook up some electrodes to an individual’s
head and read off a unique measure of “happiness.” Modern economists
have several useful ways of measuring changes in how well-off a person is.
For our purposes, one simple approach will suffice: we ask how much an individual
would be willing to pay to be in one situation rather than another. For example,
if Joe likes chocolate ice cream more than vanilla, it stands to reason that he
would be willing to pay more for a scoop of chocolate ice cream than for a scoop of
vanilla. Or if Diane would rather live in California than in New Jersey, it stands to
reason that she would be willing to pay more for the West Coast location.
Note that how much a person is willing to pay tells us nothing about the price
actually paid. What Joe has to pay for chocolate ice cream depends on market prices;
what he is willing to pay reflects his preferences. Willingness to pay is a useful measure
of utility, often helpful for purposes such as thinking about how individuals
allocate income along budget constraints. But the hopes of nineteenth-century economists,
that we could find some way of measuring utility that would enable us to
compare how much utility Fran got from a bundle of goods with how much utility Gary
obtained, are now viewed as pipe dreams.
Using willingness to pay as our measure of utility, we can construct a diagram like
Figure 5.7A, which shows the level of utility Mary receives from sweatshirts as the
number of sweatshirts she buys increases. This information is also given in Table 5.1.
Here we assume that Mary is willing to pay $400 for 5 sweatshirts, $456 for
6 sweatshirts, $508 for 7 sweatshirts, and so on. 3 Thus, 5 sweatshirts give her a
3 If these dollar amounts seem high relative to typical market prices, keep in mind that they reflect Mary’s willingness
to pay for sweatshirts, which is our measure of the utility she derives from them. Market prices may
be lower.
UTILITY AND THE DESCRIPTION OF PREFERENCES ∂ 113