Economics & Markets
Section 1
The Core Idea
The first unit of something you consume gives you more satisfaction than the second. The second gives more than the third. Each additional unit adds less utility than the one before. This is diminishing marginal utility — one of the most reliable patterns in economics and psychology. The first slice of pizza is delicious. The fifth is a chore. The tenth would make you ill. The pattern holds for money, status, screen time, and most goods. A billionaire's next million adds almost nothing to their wellbeing. A person in poverty, the same million is life-changing.
The implication is that marginal decisions matter more than totals. The question is not "how much do I have?" but "how much would one more unit add?" Rational allocation equalises marginal utility across uses — you consume until the next unit of X adds the same satisfaction as the next unit of Y. If the next hour of work pays more than the next hour of leisure is worth, you work. If the reverse, you stop. The equilibrium is where marginal utility is equal at the margin. Most people do not optimise consciously, but the pattern shapes behaviour anyway — we naturally gravitate toward variety and away from excess.
For decision-makers, diminishing utility explains why "more" is often the wrong goal. The first hire in a role has enormous impact. The tenth hire in the same role has less. The hundredth may have negative marginal value (coordination costs exceed contribution). The same logic applies to features, meetings, and capital allocation. The discipline is to think at the margin: what does the next unit add? If the answer is "not much," you have passed the point of optimal allocation.
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Section 2
How to See It
The pattern appears wherever additional units of something provide less satisfaction than the previous ones. The diagnostic: would you pay as much for the tenth unit as for the first?
Business
You're seeing Diminishing Utility when a company adds its twentieth feature to a product. The first few features addressed core needs and drove adoption. The next batch addressed edge cases. The twentieth feature serves a tiny fraction of users and adds complexity for everyone. The marginal utility of the feature is low; the marginal cost (complexity, maintenance, cognitive load) may exceed it. The product team has passed the point where more features increase value.
Personal life
You're seeing Diminishing Utility when someone checks their phone for the tenth time in an hour. The first check might have delivered an important message. The tenth delivers nothing new — the marginal utility of another refresh is near zero, and the cost (attention, anxiety, opportunity cost) may be positive. The behaviour persists because the expected utility of the next check is overestimated — we remember the times a check delivered something valuable and forget the times it did not.
Investing
You're seeing Diminishing Utility when an investor adds a 50th stock to their portfolio. The first 20 stocks provided meaningful diversification. The next 20 added some benefit. The 50th adds almost nothing — the marginal diversification benefit is negligible, and the marginal cost (tracking, rebalancing, complexity) may exceed it. The optimal portfolio is not "as diversified as possible" but "diversified enough that the next stock adds less than the cost of adding it."
Leadership
You're seeing Diminishing Utility when a CEO attends their fifth meeting of the day. The first meeting may have been essential. The fifth often could have been an email or delegated. The marginal utility of another hour in meetings declines — and eventually goes negative when the CEO has no time for reflection, strategy, or deep work. The best leaders cap meeting load precisely because they understand diminishing utility.
Section 3
How to Use It
Think at the margin. Before adding another unit of anything — a hire, a feature, a meeting, an investment — ask: what does the next unit add? If the marginal utility is low or negative, stop.
Decision filter
"Before adding more of something, ask: what is the marginal utility of the next unit? If it is less than the marginal cost — or less than the utility of the next best use of the same resource — do not add it."
As a founder
Apply diminishing utility to hiring, features, and meetings. The first engineer in a domain has enormous impact. The tenth may have less — and the twentieth may add coordination overhead that exceeds their contribution. The same for product features: the first few address the core job-to-be-done; additional features often serve edge cases at the cost of complexity. Cap meeting load explicitly — beyond a point, each additional meeting destroys more value than it creates. The discipline is to ask "what does the next one add?" before adding.
As an investor
Diversification has diminishing returns. The first 10–20 positions provide most of the diversification benefit. Beyond that, you are adding complexity without meaningful risk reduction. Concentration has the inverse: the first position has the highest impact, but adding more concentration increases risk. The optimal portfolio balances marginal utility of diversification against marginal cost of concentration. Same for due diligence: the first few reference calls add a lot. The tenth adds little. Know when to stop.
As a decision-maker
When allocating time, money, or attention, equalise marginal utility across uses. If the next hour of work would add less value than the next hour of rest, stop working. If the next dollar spent on marketing would add less than the next dollar spent on product, reallocate. The principle is simple; the execution requires honest assessment of what the next unit actually adds. We systematically overestimate the marginal utility of things we are used to doing and underestimate the marginal utility of alternatives.
Common misapplication: Assuming diminishing utility means "never have more." The principle says the next unit adds less — not that more is always bad. The optimal quantity is where marginal utility equals marginal cost. For some things (sleep, basic nutrition), we may be below that point. For others (meetings, features, possessions), we are often above it.
Section 4
The Mechanism
Section 5
Founders & Leaders in Action
Warren BuffettChairman, Berkshire Hathaway
Buffett's approach to capital allocation reflects diminishing utility. He does not diversify for its own sake — he has said that diversification is "protection against ignorance" and that "if you know what you're doing, it doesn't make much sense to own more than six stocks." The marginal utility of the seventh stock — in terms of risk reduction — is low for someone who has high conviction in their picks. Buffett also applies diminishing utility to his own consumption: he lives in the same house he bought in 1958, drives a modest car, and has said that additional wealth would not change his life. The marginal utility of another billion is effectively zero for him. The principle guides both his investing (concentrate where conviction is high) and his spending (consume where utility is high, stop where it diminishes).
Bill GatesCo-founder, Microsoft; Co-chair, Gates Foundation
Gates has applied diminishing utility explicitly to philanthropy. In a 2013 letter, he wrote that saving a life in the developing world costs roughly $5,000 — and that the marginal utility of his wealth, when spent on that, far exceeds the marginal utility of another yacht or mansion. The principle: his next dollar does more good funding malaria prevention than funding another luxury. Gates has committed the vast majority of his wealth to the foundation, effectively equalising marginal utility across uses — his consumption has hit diminishing returns; his philanthropy has not. The model guided the largest charitable commitment in history.
Section 6
Visual Explanation
Diminishing Utility — Each additional unit adds less satisfaction than the one before. The marginal utility curve slopes downward.
Section 7
Connected Models
Reinforces
Marginal Thinking
Marginal thinking is the application of diminishing utility to decisions. You evaluate the next unit, not the total. The two models are inseparable — diminishing utility explains why marginal thinking matters. The next unit is where the decision lives.
Reinforces
Opportunity Cost
Opportunity cost is the value of the next best alternative. Diminishing utility determines when the next unit of your current activity is worth less than the next unit of the alternative. The two together define optimal allocation: consume until marginal utility equals opportunity cost.
Tension
Pareto Principle
The Pareto principle (80/20 rule) suggests that a small fraction of inputs produce most of the output. Diminishing utility explains why: the first units have high marginal productivity; later units have low or negative marginal productivity. The tension: Pareto says focus on the vital few; diminishing utility says stop adding when the margin turns.
Tension
Sunk Cost
Sunk cost fallacy ignores diminishing utility — we continue investing in something because we have already invested, not because the next unit adds value. The rational approach is to ignore sunk costs and ask: what does the next unit add? Diminishing utility says the next unit may add very little; sunk cost says we should continue anyway. The tension is between the two impulses.
Leads-to
Satisficing
Satisficing is "good enough" — stop when you have met your threshold rather than optimising forever. Diminishing utility supports satisficing: beyond a point, the marginal benefit of more search or more improvement is low. The optimal strategy may be to stop before the theoretical optimum because the cost of continuing exceeds the diminishing marginal gain.
Leads-to
Hedonic Adaptation
Hedonic adaptation is the psychological mechanism behind diminishing utility for life circumstances. We adapt to wealth, status, and possessions — the first boost in wellbeing diminishes as we get used to it. Understanding adaptation explains why the marginal utility of consumption falls so fast.
Section 8
One Key Quote
— Daniel Bernoulli, Exposition of a New Theory on the Measurement of Risk (1738)"The utility resulting from any small increase in wealth will be inversely proportionate to the quantity of goods previously possessed."
Section 9
Analyst's Take
Faster Than Normal — Editorial View
The most underused lens in strategy is marginal thinking. Founders add features, hires, and meetings without asking what the next one adds. The answer is often "not much" — and sometimes "less than zero" when coordination costs or complexity exceed the marginal benefit. The discipline is to cap things explicitly: no more than X features, Y meetings per week, Z direct reports. The cap forces you to prioritise — and prioritisation is marginal thinking applied.
Wealth has sharply diminishing utility, and most people ignore it. The first million changes your life. The tenth million changes almost nothing. The hundredth million changes nothing. Yet we keep accumulating — and we keep working as if the next dollar has the same value as the first. The founders who understand this either stop earlier (and enjoy the marginal hour of leisure) or redirect the marginal dollar to uses where utility has not diminished — philanthropy, impact investing, family.
Section 10
Test Yourself
Where is diminishing utility at work?
Scenario 1
A product team has shipped 15 features in the past year. They are considering adding 5 more. User research shows that 80% of users use only 3 features regularly.
Scenario 2
A CEO is deciding whether to work an extra hour or go home. They have already worked 10 hours today. The extra hour would allow them to finish one more task.
Scenario 3
A philanthropist has given $50 million to malaria prevention. They are considering giving another $50 million to the same cause.
Section 11
Top Resources
01
Primary source
Bernoulli's resolution of the St. Petersburg paradox introduced diminishing marginal utility. His insight that the utility of wealth decreases as wealth increases remains foundational. The paper is short and accessible.
02
Book
Marshall formalised the law of diminishing marginal utility and integrated it into demand theory. His treatment of consumer surplus and the demand curve is the standard presentation in microeconomics.
03
Book
Kahneman discusses diminishing sensitivity in prospect theory — gains and losses both show diminishing marginal impact. The psychology of "more" is central to understanding why we misallocate resources.
04
Book
Smith observed that the pleasure of wealth diminishes as we accumulate — "the poor man's son, whom heaven in its anger has visited with ambition" pursues wealth that will not make him happier. A precursor to the formal theory of diminishing utility.
05
Book
Gilbert's work on hedonic adaptation explains why we overestimate the lasting impact of positive changes. The psychological mechanism behind diminishing utility for life circumstances — we adapt, and the marginal boost in wellbeing falls.