What is Marginalism?

Marginalism generally includes the study of marginal theories and relationships within economics. The key focus of marginalism is how much extra use is gained from incremental increases in the number of goods created, sold, etc. and how these measures relate to consumer choice and demand.

Marginalism covers such topics as marginal utility, marginal gain, marginal rates of substitution, and opportunity costs, within the context of consumers making rational choices in a market with known prices. These areas can all be thought of as popular schools of thought surrounding financial and economic incentives.

Key Takeaways

  • Marginalism is the study of additional use gained from incremental increases in the number of goods created, sold, etc. and how they relate to demand and consumer choice.
  • Some economists consider it a fuzzy area of economics because it cannot be measured.
  • Modern marginalism theories include the effects of psychology and are moving closer to behavioral economics.

Understanding Marginalism

The idea of marginalism and its use in establishing market prices, as well as supply and demand patterns, was popularized by British economist Alfred Marshall in a publication dating back to 1890.

Marginalism is sometimes criticized as one of the "fuzzier" areas of economics, as much of what is proposed is hard to accurately measure, such as an individual consumers' marginal utility. Also, marginalism relies on the assumption of (near) perfect markets, which do not exist in the practical world. Still, the core ideas of marginalism are generally accepted by most economic schools of thought and are still used by businesses and consumers to make choices and substitute goods.

Modern marginalism approaches now include the effects of psychology or those areas that now encompass behavioral economics. Reconciling neoclassic economic principles and marginalism with the evolving body of behavioral economics is one of the exciting emerging areas of contemporary economics.

Examples of Marginalism

One of the key foundations of marginalism is the concept of marginal utility. The utility of a product or service is its usefulness in satisfying our needs. Marginal utility extends the concept to the additional satisfaction derived from the same product or service.

Marginal utility is used to explain the discrepancy between products that should be considered valuable but are not and products that are rare and expensive. For example, water is essential to human existence and, as such, should be considered more precious than a diamond. However, an average human being is willing to pay more for an additional diamond than a glass of water. The theory of marginal utility claims that this is so because we derive more satisfaction from owning an additional diamond than another glass of water.

Within the context of consumption, there is the law of diminishing marginal utility, which states that consumption is inversely proportional marginal utility. This means that as consumption increases, the marginal utility derived from a product or service declines. Thus, the satisfaction that a consumer derives from a new product is highest when he or she is first introduced to it. Subsequent use of the product or service diminishes the satisfaction derived from it.