Market Theory

Utility Theory

iN THIS and the succeeding chapters we discuss the theory of the demand side of the market. Our task will be to explain the way the alternatives presented to each consumer by the market determine the way he spends his income and the quantities of each good that he decides to purchase. In the present chapter a framework is set forth within which individual consumer demand theoryintuitively "fits." This is the notion of marginal utility. It must be stressed that utility theory provides no explanation in terms of any external observable criteria. It merely provides a logical means of mental orderliness in bringing coherence into a description of individual behavior. It provides a framework by which an internal consistency can be introduced into the explanation of consumeradjustment to changes in market data. The fact that this framework is intuitively and introspectively valid makes it extremely valuable in explaining the actions of market participants. This chapter provides the conceptual apparatus that is then put to work in Chapter 5 in interpreting individual allocation of income. In Chapter 6 the analysis is extended to cover the demand for particularcommodities as expressed by the market as a whole and as it reacts to given changes. The analysis will be built on the basis of understanding the individual demand behavior of which market demand is itself the resultant. In Chapter 7 we apply our analysis to a market process that might develop in an economy where only consumer goods are bought and sold.

I

THE SCALE OF VALUES

The fundamentalpremise the theory of demand (and, therefore, also market theory in its entirety) is built upon is that men do not consider all 45

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MARKET THEORY AND THE PRICE SYSTEM

their desires to be of equal importance. Each of us wishes to enjoy the services of innumerable types of commodities, to achieve a variety of cherished goals. For the analysis of human action, it is of the first moment thatwe rank these inclinations and desires as either more or less urgent. Whenever we are forced to choose between the satisfaction of two inclinations, one of them takes precedence over the other. That men are able to arrange their preferences in order of importance is inherent in the nature of man himself; that men are forced to make such a ranking is imposed by the brute fact of scarcity that placesman constantly in the position of being unable to satisfy all his desires. It is this scarcity that thrusts on man the necessity to choose. And it is in the act of choice that man does, in fact, rank the available alternatives. The renounced alternatives, by their very renunciation, are declared less urgent than the alternative that is chosen. At any given time, a man finds himself possessed of amultitude of desires. He would like to eat, drink, read, walk, or simply sleep. The foundation of the theory of demand is the recognition that all his desires, all the goals he deems worthy of achievement, may be considered as making up a scale of values, arranged in their order of importance. This ordered array is set up, for any number of man's desires, whenever he is forced to choose betweenthem. When man eats, then he pronounces the goal of eating to be superior on the value scale of this moment to any of the other activities he might have engaged in. When, at another time, he goes on a hike, then it is this form of recreation that has been set aside as more urgently desired at the moment than other forms of activity.1 Acting man, at every moment of his consciousness, is forced tochoose among a number of possible courses of action. It is of the essence of action that it aims at encompassing the fulfillment of as many of the actor's desires as is possible, in the order of their urgency. That is, a man always acts to ensure that no desire is satisfied at the expense of the satisfaction of some more important want. This, after all, is only a different way of expressing the...