1.1 Definition and Principles of Economics
Economics is a social science that studies how societies allocate scarce resources to satisfy unlimited wants and needs. It examines how individuals, businesses, and governments make choices in the face of scarcity. The core concern of economics is understanding how resources are used to produce, distribute, and consume goods and services.
1.1.1 Core Concepts in Economics
Scarcity: The fundamental economic problem arising from limited resources and unlimited wants. Scarcity necessitates choices.Resources: Inputs used in the production of goods and services. These include:
Land: Natural resources (minerals, timber, water).Labor: Human effort and skills.Capital: Manufactured goods used to produce other goods and services (machinery, equipment, buildings).Entrepreneurship: The ability to organize resources and take risks.
Wants and Needs: Desires that can be satisfied by consuming goods or services. Needs are considered essential for survival, while wants are desires that enhance satisfaction but are not essential.
Choice: The act of selecting among alternatives due to scarcity. Every economic decision involves trade-offs.
Opportunity Cost: The value of the next best alternative forgone when a choice is made. It represents the potential benefits lost by choosing one option over another.
1.1.2 Microeconomics vs. Macroeconomics
Economics is broadly divided into two main branches:
Microeconomics: Focuses on the behavior of individual economic units, such as:
Consumers: How individuals make purchasing decisions.Firms: How businesses decide what to produce and how much to charge.Markets: The interaction of buyers and sellers for specific goods or services.
Macroeconomics: Examines the economy as a whole, including:
National Income: The total value of goods and services produced in a country.Inflation: A general increase in prices.Unemployment: The percentage of the labor force that is out of work.Economic Growth: The increase in a country's production of goods and services over time.
1.2 Introduction to Demand, Supply, Production, and Utility
1.2.1 Demand
Demand represents the quantity of a good or service that consumers are willing and able to purchase at various prices during a specific period. It's important to distinguish between wanting something and demanding it; demand requires both the desire and the ability to pay.
Factors Affecting Demand:
Price of the good or serviceIncome of consumersPrices of related goods (substitutes and complements)Consumer tastes and preferencesExpectations about future prices or incomePopulation
Law of Demand: States that, ceteris paribus (all other factors being equal), the quantity demanded of a good or service is inversely related to its price. In other words, as the price of a good increases, the quantity demanded decreases, and vice versa.Demand Curve: A graphical representation of the relationship between the price of a good or service and the quantity demanded.
1.2.2 Supply
Supply represents the quantity of a good or service that producers are willing and able to offer for sale at various prices during a specific period.
Factors Affecting Supply:
Price of the good or serviceCost of production (including prices of inputs)TechnologyNumber of sellersExpectations about future pricesGovernment policies (taxes, subsidies, regulations)
Law of Supply: States that, ceteris paribus, the quantity supplied of a good or service is directly related to its price. As the price of a good increases, the quantity supplied increases, and vice versa.Supply Curve: A graphical representation of the relationship between the price of a good or service and the quantity supplied.
1.2.3 Production
Production is the process of creating goods and services by combining inputs (factors of production) to generate output.
Factors of Production:
Land: Natural resources used in the production process.Labor: Human effort, both physical and mental, used in production.Capital: Goods used to produce other goods and services (e.g., machinery, equipment, factories).Entrepreneurship: The ability to organize resources, innovate, and bear the risks of production.
Production Function: A mathematical relationship that describes the maximum amount of output that can be produced from a given set of inputs, given the current state of technology.
1.2.4 Utility
Utility refers to the satisfaction, benefit, or value that a consumer derives from consuming a good or service. It is a subjective concept, but it is a fundamental concept in economics.
Total Utility: The overall satisfaction obtained from consuming a given quantity of a good or service.Marginal Utility: The additional satisfaction obtained from consuming one more unit of a good or service.Law of Diminishing Marginal Utility: States that as a consumer consumes more and more of a good, the additional satisfaction (marginal utility) from each additional unit decreases.
1.3 Definition, Principles, and Applications of Engineering Economics
1.3.1 Definition of Engineering Economics
Engineering economics is the application of economic principles and methodologies to analyze and evaluate engineering decisions. It provides a framework for comparing the costs and benefits of alternative engineering projects, systems, and designs, with the goal of selecting the option that provides the greatest economic value.
1.3.2 Principles of Engineering Economics
Several key principles guide engineering economic analysis:
Time Value of Money: Money has a time value. A dollar today is worth more than a dollar received in the future due to its potential earning capacity. This principle is fundamental to comparing cash flows that occur at different points in time.Consider All Relevant Costs and Benefits: A comprehensive analysis includes all costs (initial investment, operating, maintenance, etc.) and all benefits (revenue, cost savings, intangible benefits) associated with each alternative.Make Sound Comparisons: Alternatives should be compared on a consistent basis, considering factors such as:
The same time period (or a common multiple)Consistent units of measurementThe same assumptions about inflation, interest rates, and other relevant variables
Marginal Analysis: Decisions should be based on marginal costs and marginal benefits. A project is economically justified if the marginal benefits exceed the marginal costs.Consider the Tax Implications: Taxes can significantly affect the profitability of engineering projects. After-tax cash flows are essential for accurate economic evaluation.Account for Inflation: Changes in the general price level (inflation) must be considered, especially in long-term projects. Analyses can be performed using constant dollars (adjusted for inflation) or actual dollars (reflecting future inflation).
1.3.3 Applications of Engineering Economics
Engineering economics is applied in a wide range of engineering decisions, including:
Project Selection: Evaluating and choosing among competing projects.Design Optimization: Determining the most cost-effective design for a system or product.Equipment Replacement Analysis: Deciding when to replace existing equipment with newer models.Cost Estimation: Forecasting the costs of engineering projects.Economic Feasibility Studies: Assessing the economic viability of proposed projects.Risk and Uncertainty Analysis: Evaluating the potential economic risks and uncertainties associated with engineering decisions.
1.4 Terminologies Used in Engineering Economic Analysis
A clear understanding of the following terms is essential for conducting and interpreting engineering economic analyses:
Cost: An expenditure or outlay of resources (money, time, effort) required to achieve a specific objective.Benefit: A positive consequence or advantage that results from a project, decision, or activity.
Cash Flow: The movement of money into (inflows) and out of (outflows) a project or business over time.
Investment: The commitment of funds or other resources in the present with the expectation of receiving future economic benefits.
Profit: The financial gain realized when total revenue exceeds total costs.
Rate of Return (ROR): A measure of the effectiveness or profitability of an investment, expressed as a percentage per time period.
Interest Rate: The rate at which money is borrowed or lent, typically expressed as a percentage per time period.
Depreciation: The decrease in the value of an asset over time due to wear and tear, obsolescence, or other factors.Inflation: A general increase in the price of goods and services over time, reducing purchasing power.