SALAZAR COLLEGES OF SCIENCE AND INSTITUTE OF

TECHNOLOGY
Because we live in a resource-constrained world, engineering must be closely related
to economics.

It is absolutely essential that engineering proposals be evaluated in terms of worth

and cost before they are undertaken.
 Engineering is the application of science.
Engineering is the profession in which a knowledge of the mathematical and natural
sciences gained by study, experience, and practice is applied with judgement to
develop ways to utilize, economically, the materials and forces of nature for the
benefit of mankind.
To the engineer, knowledge is not an end in itself but is the raw material from which
he fashions structures, systems, products, and services.
Science is the foundation upon which the engineer builds toward the advancement
of mankind.
 Engineers are confronted with two important interconnected environments, the
physical and the economic.
It is the objective of engineering economy to prepare engineers to cope effectively.
 Both individuals and enterprises possess limited resources.
Thus, there is a necessity to produce maximum output with minimum input.
There is a need to operate efficiently.

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 Determination of objectives
Success is not a direct result of the construction of a new device; rather, it depends on the capability of
the invention to satisfy human needs.
Know what you need to address.

Identification of strategic factors

These are the factors that can be altered to remove the limitations restricting the success of the plan.

Determination of means
Engineers alter the physical world to determine the ways to carry out the plan.

Evaluation of Engineering proposals

There are many means to carry out the plan, but we have to choose the most efficient one, physically and
economically.
Assistance in Decision making
A correct decision is the selection of that course of action which will result in an outcome more desirable
than would have resulted from any other selection.
 The creative step
When known opportunities fail to meet the available resources, other opportunities must be sought.
Opportunities are not made, they are discovered.
People with vision accept that there are better opportunities not known to them.

The definition step

Consists of defining alternatives determined in the creative step.
In final form, an alternative should consist of a complete description of objectives and its requirements in
terms of inputs and outputs.
The conversion step
In order to compare alternatives, it is important that they be converted to a common measure.
From an economic standpoint, this means in terms of money.

The decision step

Decisions between alternatives are made on the basis of their differences.
Figure as far as you can, then add judgement.
 Economy, the attainment of an objective at low cost in terms of resource input, has
always been associated with engineering.
 What is the important difference between physical law and economic law?
Why should the engineer be concerned with both the physical and the economic
aspects of the environment?
Give an example of a product that is technically feasible but possess little economic
merit. Explain.
Why is judgement always necessary in coming to a decision relative to an outcome
in the future?
Why should economic interpretation of engineering proposals be made by engineers?
 Value
Designates the worth that a person attaches to an object or service.
Should not be confused with cost or price of an object.

Utility
The power to satisfy human wants (general economic meaning)
The utility that an object has for an individual is not determined by him or her.

The utility of an object has for the person is the satisfaction he or she derives from it. Value
is an appraisal of utility in terms of a medium of exchange.

Utility of an object can vary from time to time, depending on physical factors.
The purpose of much engineering effort is to determine how physical factors may be altered
to create the most utility for the least cost in terms of the utilities that must be given up.
 Consumer Goods
Products and services that directly satisfy human wants.
Utility a consumer applies to goods is a result of subjective, non-logical mental processes.

Producer Goods
Also satisfy human wants but do so indirectly as part of the production or construction
process.
Producer goods are used from producing consumer goods.
An intermediate step in peoples efforts to satisfy their wants.
Utility is objective. It is considered by logical processes limited only by factual knowledge
and the ability to reason.
 Economic Aspects of Exchange
Economy of exchange occurs when utilities are exchanged by two or more people.

Mutual benefit in exchange

A buyer will purchase when he believes that the value of the good has equal or greater
utility than the amount required to purchase it.
A seller will sell a good when he believes the value of the money in exchange for the good
to have greater utility than the good.
Exchange will not take place until both parties see that they benefit from the exchange.
Both are able to benefit because they are in different economic environments.
Difference between utilities of exchanged goods is called range of mutual benefit
Persuasion in Exchange
Taking the person to an excursion into the future in an attempt to show him what will
happen if he acts in accordance with the proposal.
Value of the object remains the same, but its utility is increased due to persuasion.
 Classifications of Cost
First Cost
The cost of getting an activity started.
Not a recurring cost.
Equipment cost, shipping cost, etc.

Operation and Maintenance Cost

Recurring costs
Electricity, Water, Labor, etc.

Life Cycle Cost

All costs that occur over the life-cycle.
Seeks an economic balance between cost of acquisition and cost of operation
The objective is to minimize the sum of the costs over the life cycle
 Classifications of Cost
Fixed and Variable Cost
Fixed cost is the group of costs incurred during that activity whose total will remain
relatively constant.
Maintenance costs, taxes, insurance, etc.
Variable cost varies with level of activity in project
Fuel, Electricity, etc.

Incremental and Marginal Cost

Incremental cost means an increase in cost.
Marginal cost refers to an increment of output whose cost is barely covered by the
monetary return derived from it.
 Classifications of Cost
Sunk Cost
A past cost that cannot be altered by future action
Irrelevant in engineering economy studies
 Interest and Interest Rate
Interest
A rental amount charged by financial institutions for the use of money.
Can be cost or profit

Interest Rate (Rate of Capital Growth)

Rate of gain received from an investment.
Percentage gain of the money.

Can be viewed from two perspectives, the lender and the borrower.
 The Earning Power of Money
This is from the notion that it is profitable to borrow.
Example:
Racel manually digs ditches for underground cable. He is paid $0.40 per linear foot and
averages 200 linear feet per day.
Due to weather conditions, he can only work 180 days in a year. So, he makes $14,400 per
year.

He buys a power ditcher worth $8000 dollars after borrowing the amount at 16% interest.
The machine will dig an average of 800 linear feet per day. By reducing the price to $0.30
per linear foot, he can get sufficient work to keep the machine busy when the weather will
permit.

Estimated operation of maintenance costs for the ditching machine are at $40 per working
day. At the end of the year, the machine is worthless because it is worn out.

Will his borrowed money make a profit?

 Time Value of Money
A peso at this point in time may be more valuable than a peso in the future because money
can earn at a certain interest rate through its investment for a period of time.
Equal amounts of money at different points in time have different value as long as the
interest rate can be earned exceeds zero.
Purchasing power also changes through time
 Define utility and value.
Explain economy of exchange.
Define sunk cost and explain why it should not be used in engineering economy
analysis
How does inflation affect behavior of a potential borrower?