The marginal rate of substitution is - what is it? The marginal rate of replacement of labor with capital

In life, everything has to be chosen. Go to a dance or gym, wear a skirt or trousers (for men, it's certainly easier), buy yogurt or curd dessert? For all these processes have long been observed by specialists of different industries: sociologists, psychologists, marketers and just economists.

In microeconomics, there is a theory about the marginal rate of substitution. According to the definition, this is the amount of goods of one type from which the buyer agrees to refuse in favor of purchasing another product. Let's talk not so abstract about this phenomenon.

Why microeconomics?

In Greek, "microeconomics" are the laws of farming "small houses". The problems of production, consumption and choice of resources by enterprises of different forms of ownership and simply by households are the subject of interest in microeconomics.

This theory is theoretical, but it allows one to explain practically all the economic processes taking place in society.

The main areas of interest for microeconomics are:
• The problem of the consumer.
• The problem of the manufacturer.
• Market equilibrium issues.
• The theory of public good.
• Issues of influence of the external environment.

The concept of "marginal rate of replacement of benefits" refers precisely to the sphere of problems of microeconomics and allows quite simply to answer questions that arise.

Theories of utility

The utility theory of the product suggests that by buying each unit of a product, the consumer meets his needs. So, it becomes a little happier. The aspirations of all specialists in the world are ultimately aimed at making people happier.

At the present time, there are such utility theories: cardinal and ordinal. The first assumes that the utility from the consumption of goods can literally be counted. This theory is sometimes called the quantitative theory of utility. Supporters argue that the utility of the consumption of goods is measured in a conventional unit - scrap.

The second, ordinal, or relative utility theory, asserts that the consumer compares the utility (utility) of consumption of one commodity with the same benefit from the consumption of another. Roughly speaking, each time, choosing between a cup of coffee with a bun and a cola with a hamburger, we decide what will bring more benefits at the moment. Within the framework of the relative utility theory, a marginal rate of substitution appeared.

Definition

In the world everything tends to balance. Our choice of goods is not an exception. Buying one thing, we consciously give up the other. At the same time, we are sure that the purchased will bring more benefits than left on the shelf of the store. The marginal rate of substitution of goods gives us an understanding of how certain "products" are more important than others. Of course, each of us has our own preferences and priorities. But for the economy such a subjective view is not appropriate. A generalized approach is needed.

The marginal rate of substitution is equal to the ratio of the change in the quantity of consumed goods. The formula is written as follows: MRS = (y ₂ - y ₁ ) / (x ₂ - x ₁ ).

Changing the consumption (use) of X and Y goods allows us to draw conclusions about consumer preferences, as well as talk about the value of goods. The only factor that can be measured in the theory of product selection is its price. All other characteristics of the product and the reasons for its selection are very subjective. In an attempt to replace one product with another, the consumer seeks to keep financial costs at the same level. And it is better to reduce consumption costs.

Indifference curves

Indifference curves clearly show all possible sets of benefits that the consumer acquires. At the same time, we stipulate that the consumer does not care what kind of goods to choose. For example, a choice between apples and oranges, urban transport or commercial routes. On the axes of the plane, the number of goods being compared is displayed (along the X axis, for example, cups of tea, and on the Y axis, biscuits).

Ultimately, on the curve, we see exactly how many apples the consumer is willing to refuse in favor of buying one additional orange. And vice versa. In the case when each currency unit is equally useful when buying the compared goods, they talk about the maximization of utility and rational distribution of the consumer's budget, that is, the marginal rate of substitution is reached. Further observations of the consumer acceptance of purchasing decisions show that if the cost of 1 apple is less than the cost of 1 orange, the consumer will choose an apple.

The general theory of rational consumption

Indifference curves usually reflect equal marginal utility. But we note that in the case when the marginal utility of the commodity X is twice as high as the price, and the commodity Y is three times as high. The consumer will switch to the purchase of goods, even without regard to the fact that it is more expensive.

This will cause a redistribution of the entire budget, because the costs for the goods U will rise. The marginal utility rate in this case is achieved by the "rationality effect" of the buyer, who aspires to get the maximum benefit from the purchase of the goods. A rational buyer constantly evaluates the current situation in the market and redistributes the direction of spending.

Particular cases of marginal utility

In the economy, the so-called ordinary goods, substitute goods and complementary goods are distinguished. The first - partially interchangeable goods (water and compote), the second - completely replacing each other ("Coca-Cola" and "Pepsi-Cola") and the third - goods complementing each other (ballpoint pen and rod to it).

For all the cases described, the marginal rate of replacement of benefits is a special (exceptional) case. So, if in the general case a curve with a negative slope and convexity toward the beginning of the axes, then for substitutes the graph takes the form of a straight line intersecting the coordinate axes. The slope of this straight line depends on the prices of the goods, while the degree of concavity of the curve is determined by the possibility of replacing one product with another.

Factors of production and rate of substitution

As in private economy, at enterprises, economists try to track the usefulness of purchased and consumed resources. In this case, the marginal rate of technological substitution is calculated. Unlike goods in the consumer market, enterprises monitor changes in one factor of production to increase (decrease) another. The limit is the volume of output - it must remain unchanged.

The most common indicator is the marginal rate of replacement of labor by capital. You can invest in the production of additional funds, not paying attention to changes in labor. But in this case it is said that at a certain moment there will come a decline in production, since in order to remain on the same indifference curve, it is necessary to compensate for the increase of one factor by the reduction of the other. This situation contradicts the production of the marginal product. Therefore, enterprises have to find a balance between the factors of production.

The marginal rate of substitution of factors of production is the most important indicator for calculating the economic efficiency of the enterprise.

What is the relationship between marginal utility and replacement rate?

Of course, each product benefits. Up to a certain point, each next unit of the product also brings additional benefits. But at some point this increase in the consumption of something one is no longer beneficial. Then we talk about reaching the marginal utility of the goods.

If we stay on one curve of indifference and move along it in some direction, then we can talk about compensation for the utility of goods: a decrease in consumption of one leads to an increase in the consumption of the other; The total utility does not change. Additional utility is considered as the marginal utility of each product. The formula is written like this: MRS = Py / Px.

The properties of the marginal rate of substitution

• The indicator of the marginal rate of substitution is the ratio of the marginal utilities of the two goods.

• A negative value of the marginal rate of substitution means that reducing the consumption of one product automatically causes an increase in the use of the other.

• The marginal rate of substitution is considered only when moving up and down the indifference curve.

• All of the above "works" only for general cases (partially interchangeable products); This characteristic is not considered for all particular variants.