Engineering Economics

Engineering economics refers to the practice among working engineers of factoring economic concerns into a proposed design or another project, including the cost of materials and future upkeep, predicted revenues, investment potentials, depreciation, taxes and tax credits, and the time value of money. It also refers to a major development within the undergraduate curricula of all branches of engineering in which students are required to work with and apply basic economic principles when dealing with a project, specifically by assessing multiple solutions and recommending the most viable based, at least in part, on economic realities.

Background

Engineering economics takes as its premise that an engineer is responsible for creating alternative solutions to a given problem, not merely one solution to address one problem. Engineers must think creatively and aggressively and realize that any one problem or any one deficiency in a market can be addressed through multiple strategies.

The reality for engineers is that economic concerns are fundamental elements of translating any design into reality. If more than one design solution is available to safely and satisfactorily address a particular problem, then financial considerations, both immediate and longer term, are likely to affect which solution an engineer’s client will choose. By introducing economic considerations in addition to engineering principles into the development of design alternatives, engineers can think more like their clients, factoring in the big-picture concerns and economic realities that confront any company backing a particular project or design. Whether the potential return from a particular design will exceed the necessary investment may not seem like an important concern for an engineer who would be more involved in the efficiency and workability of the design and the uses and methods of construction. However, the only way to optimize engineering work is to have the engineers themselves be familiar with and proficient at using economic realities to factor short- and long-term economic impacts into their designs.

Many major universities with engineering programs, among them the Massachusetts Institute of Technology (MIT), the University of Michigan, Carnegie Mellon University, and Stanford University, have developed economics courses that work with the basic process of engineering design as a way to stress that creative design and technological expertise must, in the end, be informed by financial realities and constraints. The Fundamentals of Engineering (FE) exam, which prospective engineers must pass to be licensed in the United States, includes engineering economics as a topic; although the number of questions devoted to the subject varies with the particular engineering discipline, all of the versions of the exam include at least some. The second exam required of all engineers in the US is the Principles and Practice of Engineering exam administered by the National Council of Examiners for Engineering and Surveying.

Overview

Including economics in engineering curricula is not intended to take away from the actual science of engineering itself. Indeed, the economic principles involved are basic. Although economics is a broad field of myriad and complicated financial and marketing theories, the general economic concepts that engineers must deal with in any project are relatively few. First, the engineer must consider the time value of money, that is, how much the money invested in a project today would be worth in the future, when the project design would be completed, if it were allowed to earn interest instead.

In addition, engineers must factor in basic questions of cash flow—specifically, how a client might procure the investment capital necessary to fund any engineering project, whether from a bank, the government, or private investors. Any project must also factor in its revenue potential and whether the risk is worth the investment. Engineers developing designs must consider depreciation, or how any object—from toothbrushes to buildings, from smartphones to automobiles—will lose value over time. They must also factor in the availability of critical resources to realize the design, the taxes and tax credits it will incur, and the rate of inflation throughout the design’s development, as well as estimate specific areas of cost as part of any proposal. These are not traditional engineering concerns, but these areas are now considered a vital part of the responsibility of an engineer developing a range of solutions to a client’s problem. Most importantly, the discipline of engineering economics introduces engineers to the core principle of uncertainty or risk—that is, how to factor in the potential economic impact of what cannot be known for certain: development delays, technological glitches, cash-flow interruptions, information technology (IT) issues, licensing foul-ups, financing crises, market softness, and even shifts in the global economic market.

Engineering economics professionals must also consider climate change in the twenty-first century. Using cost-benefit analysis and game theory, engineers can assess the feasibility of technology like solar power, geothermal power, or carbon capture and storage for individuals and businesses. An important consideration in this area is the potential for emission standards or building code modifications that require costly upgrades.

By presenting clients with a choice of alternative approaches to solving their particular problems, engineers provide a critical perspective on what is known as opportunity cost—the potential value that is lost when one option is chosen over another. From this perspective, the most viable solution would be the one with the lowest opportunity cost. Such financial concerns are often the primary criteria for the viability and merit of any engineering design proposal, rather than more traditional engineering concerns such as the design’s mechanical soundness, energy efficiency, best use of available resources, computer systems, or aesthetic appeal. By recognizing that clients must tie up real capital in any project, engineers can deal with them more realistically and effectively.

Bibliography

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Newnan, Donald G., et al. Engineering Economic Analysis. 14th ed., Oxford UP, 2020.

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Park, Chan S., and Gunter P. Sharp-Bette. Advanced Engineering Economics. 2nd ed., Wiley, 2021.

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