Economic Analysis involves assessing or examining topics or issues from an economist’s perspective. Economic analysis is the study of economic systems. It may also be a study of a production process or an industry. The analysis aims to determine how effectively the economy or something within it is operating. For example, an economic analysis of a company focuses mainly on how much profit it is making.
Economists say that economic analysis is a systematic approach to finding out what the optimum use of scarce resources is.
Economic analyses factor in the opportunity costs that people or companies employ. They measure, in monetary terms, what the benefits of a project are to the economy or community.
Opportunity cost is all about evaluating the option you gave up when you made a choice.
Definition
Economic analysis can mean two main things:
1. It can be a study of how an economy works—either for one country or a group of countries.
2. It can also mean looking closely at a business’s finances to find ways to save money and cut down on waste.
In both cases, the goal is to understand where money is going and how to use it more wisely.
Put simply; economic analysis is all about analyzing the economic aspects of something.
Apart from economists, statisticians and mathematicians may also carry out economic analyses.
It is a tool used to figure out how to use resources in the smartest way: so that people or organizations can earn more money or spend it more effectively.
It’s most helpful when done early in a project, so that better decisions can be made from the start and resources aren’t wasted.
Economic analysis – methods
For companies, the goal of an economic analysis is to provide a clear picture of the current economic climate. Specifically, what the impact of the economic climate is or might be on the company’s ability to operate commercially.
In this context, ‘economic climate‘ means ‘economic conditions,’ i.e., the state of the overall economy.
The people conducting the analysis carry out an in-depth appraisal of the market’s strengths and weaknesses. They may choose from several different methods.
Cost/benefit analysis
This type of economic analysis tries to determine a project’s feasibility. Some people may refer to it as a feasibility study.
Those carrying out the study weigh its costs against its potential benefits.
A business may perform a cost-benefit analysis before, for example, purchasing four robots for the warehouse. Each robot can do the work of five human workers.
Currently, the business has 20 warehouse employees. They earn $30,000 per year each, i.e., they represent a total annual wage bill of $600,000.
Without factoring in wage increases and inflation, the business will have spent $6 million on warehouse staff over a 10-year period.
The robots cost $150,000 each. The price includes ten years of free maintenance. Therefore, the cost of automating the warehouse is $600,000.
The company must also employ a roboticist, whose salary is $50,000 per year.
Over a ten-year period, the cost of the robots plus the roboticist will be $600,000 + $500,000 = $1.1 million.
The company will save $4.9 million over that ten-year period if it replaces the human workers with robots.
It might save even more after that because nobody knows for certain how long the robots will last.
After looking at the cost/benefit analysis, the directors will probably decide to go ahead with the project.
Many sociologists and economists today warn that automation will soon take millions of human jobs. What will society be like in future if most people are unemployed?
The subject of automation is not only present in companies targeting manufacturing, it’s also quite present in service industries as well. For example, financial companies all over the world have been planning to re-adjust their operations departments.
Although companies can afford to have employees similar to the past, the reality of the modern markets has shifted so much towards a profit-oriented policy that employees are simply not a focus anymore
Cost/Effectiveness
In this type of analysis, we weigh a project’s effectiveness against its price. In this case, however, a low cost does not necessarily mean superior effectiveness.
Using the same ‘warehouse and robots’ scenario, researchers have also determined that human workers are better at spotting defects.
The warehouse workers’ duties do not include checking the quality of the goods. However, they often identify faults and report them.
The company addresses the defects before shipping out the products.
The cost/effectiveness analysis finds that losing this fault detection feature might cost more than $4.9 million over a decade.
The company will probably lose some dissatisfied customers. Additionally, fixing defects after delivering products is much more expensive than doing so beforehand.
After reading the cost-effectiveness analysis, the directors may halt the project. Perhaps one of them may suggest purchasing the robots but keeping on one or two human workers.
Cost/benefit and cost/effectiveness analyses are just two of several types of economic analyses.
These methods, along with others like risk assessment and environmental impact studies, provide a comprehensive view for economic decision-making.
These analyses methods contribute to the economic assumptions that economists make when they create economic models.