Question

What is the marginal rate of substitution (MRS) and why does it diminish as the consumer substitutes one product for another? Use examples to illustrate.

Answer 1

Marginal rate of substitution can be defined as a rate at which consumer is willing to trade one good for another good.

MRS= MU of good 1 / MU of good 2.

When a consumer starts consuming more of good1 by substituting good 2, then the MU of good1 starts decreasing while MU of good 2 starts increasing. Since numerator decrease and denominator increases, so the Value of MRS will decrease.

For example if a consumer consumers only two goods Apple and Burger, then with the substitution of Apple for burger will leads to MU Apple will decrease while MU of Burger increase. Hence the value of MRS will decrease.