Economics for the Built Environment (ECO5BEC)
Week 1: Introduction to economics - 27 March - 2 April
Economics - What’s it all about?
“a science of wealth that studies the process of production, consumption, and accumulation
of wealth.” - Adam Smith (The Wealth of Nations, 1776)
Activity 1.2: Introduction to economics
Humans satisfy their needs and wants with goods and services, which are made from the
Earth's resources. Resources are relatively scarce because they are limited in supply but
people's demand for them is unlimited. Economics studies how scarce resources are
allocated between competing wants. When spending their limited incomes, individuals and
firms must choose between alternatives. The cost of choice is opportunity cost - the product
chosen costs the one which was not chosen.
Present generations must behave sustainably by not harming the environment and by
leaving enough resources for future generations.
A mixed economy is a combination of private and public sectors. It is based on a free market
system, where individuals and firms make consumption and production decisions, but where
governments intervene via taxation, subsidies, laws and regulations.
Firms produce goods and services by combining four factors of production – land, labour,
capital and enterprise. Land is the Earth's surface and all its natural resources. Labour is
humans at work. Capital is the equipment which helps people to produce. Enterprise is the
people who own and run businesses and who combine the other three factors.
Positive economic statements are based on facts or on generally accepted relationships.
Normative economic statements are based on opinion and value judgements.
,Economics is sub-divided into two main areas. Microeconomics studies the behaviour of
individual people and firms. Macroeconomics studies the behaviour of economic aggregates.
Read: Introduction to economics
The following sections are especially important:
2.1: The economic problem;
2.2: Scarcity and choice;
2.3: Opportunity cost;
2.4: The production possibility curve;
2.5: Sustainability;
3, 3.1, 3.2 and 3.3: Economic systems;
4, 4.1, 4.2, 4.3, 4.4 and 4.5: Factors of production;
7: Positive and normative economics;
8: Microeconomics and macroeconomics.
2.1 The economic problem
Economics is defined as the study of the allocation of scarce resources.
The Earth does not have sufficient resources to allow every single person to satisfy all their
possible needs and wants, so the available resources must be allocated between competing
desires.
Economic decisions are closely involved in two fundamental economic processes:
• Consumption: the process of acquiring goods and services to satisfy individual needs
and wants;
• Production: the process of combining resources to create goods and services that
are wanted for current consumption or to provide the means for future production, for
example buildings and machinery.
2.2 Scarcity and choice
The fact that an individual’s resources are limited is also the central economic problem for
society as a whole: unless wants are restricted in some way, there are not enough resources
to meet everybody’s demand for them. Resources are said to be relatively scarce.
Scarcity means that the Earth’s resources are insufficient to satisfy all human needs and
wants. This is because resources are finite but demands upon them are infinite.
The problem of relative scarcity exists, whereby unrestricted demand for the use of
resources cannot be satisfied and so it becomes necessary for society to choose among
alternatives.
Here are some examples of the choices that have to be made:
• Which goods and services will the scarce resources be allocated to, and in what
quantities will they be produced?
• What proportion of resources will be earmarked for capital (production) goods like
buildings, vehicles and machinery; and what proportion will go to producing current
consumption goods and services like food, clothing and holidays?
• What techniques and methods will be employed to produce the resources and in
what proportions will these methods be combined?
• How will the rewards of production be shared among the resource owners, i.e. the
labour force, the managers and the owners?
• What share of resources will be taken by government services and what share will go
to private sector goods and services?
,2.3 Opportunity cost
Since resources are scarce, any decision on their use involves the sacrifice of some
alternative use.
Opportunity cost is defined as the cost of one product in terms of another product which was
sacrificed in order to buy the first one.
Opportunity cost is the real cost (in terms of products and not of money) of choosing to buy
one product as opposed to another. It is the loss or sacrifice of the alternative product which
was given up. It is called the 'foregone alternative'.
The money cost incurred when buying a product is a private cost to the consumer or the firm
but, in order to understand the full opportunity cost of an economic decision to society, it is
also important to consider the external costs created by this decision. External costs are paid
for, not by the producer or the consumer, but by third parties who are involved in neither the
production nor the consumption of the product.
1.1 Production possibility curves
The concepts of scarcity, choice and opportunity cost can be illustrated by an important
model known as production possibility and illustrated by the production possibility
curve. This sets the boundary of how many goods and services in total a country can
produce and it shows various possible combinations of those goods or services within that
boundary.
Faced with fixed resources in the short term, an economy operating at a point on its
production possibility curve can produce more of one of the products only at the expense of
some of the other. There is therefore an opportunity cost in terms of one product sacrificed in
order to produce more of the other product. So, if the country wants to produce more
financial services, it will have to give up some manufactured goods.
2.5 Sustainability
The concept of sustainability is a thread which will run throughout this Economics module.
Sustainable development was defined by the Brundtland Commission as follows:
‘Sustainable development is development that meets the needs of the present without
compromising the ability of future generations to meet their own needs.’ (Brundtland
Commission 1987)
This means that countries should manage their economies in a way which serves the needs
of the current population, but which is not harmful to the standard of living of people who will
live in the future.
The economic pillar: societies should consume scarce resources only to the extent that they
can be regenerated within the Earth’s capacity to produce new resources and assimilate
waste materials. This is in order to avoid resource depletion and to leave resources for future
generations.
The environmental pillar: societies should avoid causing damage to the environment, e.g.
they should aim at zero carbon emissions and stop polluting the oceans and the air.
The social pillar: societies should reduce poverty and inequalities between different groups
of people and thus reduce conflict over the allocation of scarce resources.
These three pillars interact with each other and a truly sustainable society must find an equal
balance between them.
The study of sustainability spans many subject areas, including the physical and biological
sciences and sociology. But because it is about the fair and clean distribution and
consumption of resources, it is also of great interest to economists.
, 3.1 The free market economy
A free market (capitalist) system is an extreme case where all resources are privately owned
and all decisions are taken privately by individuals or organisations; decision-making is
decentralised. The goods and services which are produced from these resources are
distributed according to their prices, which effectively ration them. This is the 'invisible hand'
of the market which was described by 18th century economist Adam Smith in his book An
Inquiry into the Nature and Causes of the Wealth of Nations (Smith 1776). The invisible
hand, according to Smith, caused private decisions to operate for the general economic
advantage of society.
Smith believed that people’s decisions are based on self-interest, as they seek the maximum
satisfaction from the use of their resources. In doing so they make a positive contribution to
the wealth of society by producing the goods and services it requires and by creating
employment and paying incomes to all who seek them. In this model, universal private
ownership of resources and free individual choice in using them result in the best possible
outcome for society as a whole.
The government of such a society does not take part in economic life. It does not own or
produce resources, it does not levy taxes and it does not spend any money on the private
sector. It does not pass regulations to restrict the way that firms operate. This describes
many governments of the past.
It is hard to find a truly free market economy nowadays and Smith’s views on this point are
debatable, but it sets the extreme against which to compare the real economies of today’s
world. The free market system remains the core of most modern economies, even though
governments intervene
3.2 The centrally planned (command) economy
A centrally planned (command or centralised) economy is the extreme opposite of a free
market economy and it concentrates the decision-making process and the organisation of
resources in the hands of a central authority.
In such a system the state controls the means of production. Decisions on what to produce
are taken by the central authority on the basis of what it thinks people prefer (or should
prefer) to consume. State-owned organisations produce and distribute the chosen goods
and services.
One of the social benefits of a command economy is that resources can be shared out
equally between people and inequalities of income and wealth can be avoided. There is a
high level of provision of public goods by the state, e.g. health care and education. However,
the fact that a larger proportion of the country's income is spent on such goods and services
means that there is less emphasis on consumption and consumers probably have less
choice.
Because economic decisions are taken centrally and bureaucratically, the system is costly to
operate. Delays and frictions in collecting information mean that production decisions may
not reflect what consumers actually want and so there is a tendency to produce surpluses of
some commodities, while leaving shortages of others. Thus the allocation of scarce
resources may not be efficient.
3.3 The mixed economy
Mixed economies combine elements of free markets and of central planning, with the
emphasis differing between countries.
Most countries have free market economies at their base, but their governments intervene in
these markets. China is an exception to this, as it is predominantly a centralised system, but
even there, free markets operate.
The UK is a good example of a mixed economy, with around 5.5 million people working for
the public sector out of a total working population of around 33 million (ONS 2020). The
public sector levies taxes on various economic activities and it uses the revenues to fund
