Question

a. The concept of a marginal use value that declines as the rate of consumption increases leads to a powerful insight about consumer behaviour. The question was posed: “Why should something as essential to human life as water sell for low market prices while something as frivolous as cosmetic diamonds sell for high market prices?” What is your response?

                                                                                                                                              

b. When two or more of the factors that affect demand change simultaneously, one is often interested in determining their combined impact on quantity demanded. For example, suppose that a firm plans to increase the price of its product next period and anticipates that consumers’ disposable incomes will also increase next period. Assuming other factors affecting demand, such as advertising expenditures and competitors’ prices, are expected to remain the same in the next period, demonstrate how would you determine the combined effect of the change in price and income on quantity demanded.         

Answer 1

a.The reason why the water which is essential for survival is much cheaper than a diamond is that the price does depend upon the total usefulness of it, but on the usefulness of each unit of it.

Since the water is abundantly available, the supply of it is very high in the economy. Therefore the Marginal utility of water is low. The particular unit of water becomes useless as the supply of water increases. Whereas Diamonds supply is much lower than water. Therefore the Marginal utility is very high .The  Utility derived after buying  one additional diamond is greater than the utility derived by consuming one additional glass of water, which is in abundant supply( Marginal Utlity).

Also, the Diamond has high exchange value and huge labor cost is involved.

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