A consumer consumes only two goods X and Y. Explain the conditions of consumer's equilibrium using marginal utility analysis.

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Solution

Consumer consuming only two goods, say X and Y, will attain equilibrium when the following conditions are satisfied.

(i) Marginal utility per rupee $(\frac{M U_{X}}{P_{X}})$ must be same for both the goods purchased by the consumer.

Thus, $\frac{M U_{X}}{P_{X}} = \frac{M U_{Y}}{P_{Y}}$

(ii) Marginal utility of money remains constant. That is, $\frac{M U_{X}}{P_{X}}$ or $\frac{M U_{Y}}{P_{Y}}$ should be equal to $M U_{M}$ , which implies that utility per rupee obtained by the consumer from good X or good Y should be equal to marginal utility of money. Thus,

$\frac{M U_{X}}{P_{X}} = \frac{M U_{Y}}{P_{Y}} = M U_{M}$

(iii) Law of diminishing marginal utility must hold true, which implies that marginal utility declines as more of a commodity is consumed.

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