Marginal Rate of Substitution | Microeconomics | Management Notes
Marginal Rate of Substitution is considered one of the very important concepts for the analysis of the indifference curve. Taking about the marginal rate of substitution, it is the rate that reflects the rate at which the consumer will be willing to replace /substitute the one commodity that he/she is using for another commodity in the market without compromising the level of satisfaction from it. Let us suppose two goods by A and B, then we can define MRS between A and B as the amount of B that the consumer is willing to give up so as to obtain one more unit of A good.
Marginal Rate of Substitution Formula,
Expressing MRS mathematically,
MRS = ∆B/∆A
Using the following table,
From the above table, we can see that, for having one more unit of A commodity the consumer sacrificed four units of B commodity. Looking at the combination C, we can see that to get one more unit of commodity A, the consumer has sacrificed three units of commodity B. With these combinations the consumers will have the same level of satisfaction.
Using the figure,
Marginal Rate of Substitution Graph, Marginal Rate of Substitution Diagram
Looking at the graphical figure of the marginal rate of substitution we can easily see that the consumer is ready to sacrifice four units of commodity B for one unit of commodity A in the combination B. In the same way if we look at the third combination we can see that the consumer is ready to sacrifice three units of commodity B for one more unit of commodity A. All these analyses reflects that when the consumer gets more units of commodity A, the desire for the commodity A will go diminishing/decreasing.
This will lead him to sacrifice fewer units of commodity B. These factors will cause a decline in MRS. As we can see in the figure that there is a downward slope of the Indifference curve which denotes the diminishing marginal rate of substitution. The reason behind diminishing MRS is because no goods are perfectly substitutable and the increment of one goodwill not satisfy the need/want to satisfy for the other goods.