Introduction:
- Capital in a man- made material. Man produces capital equipments or goods to help him in the production of other goods and services.
- Capital is, therefore, defined as “the produced means of further production”. The word ‘capital’ is often interchangeably used for concepts like money, wealth and land. Hence, the definition of capital is made clearer in the following section:
Capital and Money:
- Money can be used to buy consumer goods (rice) as well as capital goods (tractor). Money used to buy capital goods is also called capital, while money used to buy consumer goods is not capital.
Capital and Wealth:
- Wealth included both consumer goods and capital goods. Hence, all capital is wealth, but all wealth is not capital.
Capital and Land:
- Land is a free gift of nature but capital is man- made. Capital is perishable, i.e., it can be destroyed. But land is indestructible and permanent. Capital is mobile when compared with land. The quantity of capital can be changed depending upon its price. But the land area is fixed and limited in supply.
Characteristics of Capital:
- Capital is man- made (artificial). Capital is not a free gift of nature. Machinery, implements, etc. are considered as capital goods.
- It increases the productivity of resources. Capital is a productive, as it helps in enhancing the overall productivity of all the resources employed in the production process. Invested capital also fetches interest for its productive capacity. Farm machinery when used with the skilled labourer enhances the productivity of land. Irrigation dam is considered as the capital good and with its water; we can bring out complementary effect on the productivity of other resources such as fertilizers, seeds, etc.
- Supply of capital is elastic. It can be produced in large quantity when its requirement increases. Its supply can be altered according to the need. Based on the demand, supply of the capital goods can be changed.
- Capital is perishable as it can be destroyed.
- Capital is highly mobile as it possesses the characteristics of territorial mobility. For example, capital goods like tractor can be taken to different places of work and can be used for a variety of works.
- It is also prospective as its accumulation rewards income in future. Savings and investment in the economy leads to growth and development of the economy due to accumulation of capital overtime. This leads to a rise in nation’s income and consequently individual’s income.
- Capital is a passive factor of production. Unless it is combined with labour, capital is of no use and remains idle.
Types of Capital:
Fixed capital and working capital:
- Fixed capital can be used many times in the production process. The level of fixed capital does not vary with the level of production in a very short period, (E.g.) farm buildings, tractors, farm tools, etc.
- Working capital or variable capital or circulating capital can be used only once and they are not available for further use. The level of working capital increases (decreases) with the increase (decrease) in the level of production, (E.g.) raw cotton or lint used to spin yarn, fertilizer used to produce paddy, etc.
Sunken capital and floating capital:
- Sunken capital is meant only for a specific purpose, (E.g.) cane crusher, paddy thrasher etc. They cannot be used for any other purpose. Floating capital can be employed for any use, (E.g.) money.
Social capital and private capital:
- Private capital is owned by individuals and the income or benefit derived from these assets are available only to the individuals who own them (E.g.) tractors, private factories etc.
- Social capital is owned by the society as a whole and the benefits derived from these assets are shared among the members of the society, E.g. bridge, dam, government owned factories, etc.
Capital Formation:
- Capital formation or capital accumulation means the increase in the stock of real capital in a country. In other words, capital formation involves making of more capital goods such as machines, tools, etc, which are all used for further production of goods. Capital formation creates employment at two stages. First, when the capital is produced, some workers have to be employed to make capital goods like machinery, tools, etc. Secondly, more labour has to be employed when capital has to be used for producing other goods.
Phases of capital formation: There are three phases in the process of capital formation or capital accumulation.
Creation of savings:
- In order to accumulate capital goods some current consumption has to be sacrificed. If people are willing to reduce their present consumption, they can devote more resources to build up capital goods for the use in future. The level of savings in a country depends upon the power to save and the will to save.
- The power to save depends upon the level of income of people. The higher the level of income, the greater will be the amount of saving. Apart from the power to save, the total amount of savings also depends upon the will to save.
- People save in order to provide financial security against their old age and unforeseen emergencies. People also save to start business or make provision for their children’s education, marriage, etc. Savings may be either voluntary or forced. Voluntary savings are those, which people do of their own free will. Voluntary savings depend upon the interest rate, power to save and will to save.
- On the other hand, taxes by the Government represent forced savings. Savings may be done not only by households but also by business enterprises and government. Government savings constitute the money collected as taxes and the profits of public undertakings. Foreign capital also forms another source of investment. Foreign capital can be of 1) direct private investment by foreigners, 2) loans or grants by foreign governments and 3) loans by international agencies like the World Bank, International Monetary Fund (IMF),etc.
Mobilization of capital:
- The savings must be mobilized and transferred to businessmen or entrepreneurs who require them for making investment. In the capital market, funds are supplied by the individual investors (share holders), banks, investment trusts, insurance companies, government, etc.
Investment of savings in real capital:
- Investment is done by entrepreneurs. The level of investment or capital accumulation is determined by the cost or supply price of capital (interest and other cost of acquiring capital), the expectations of profits and the size of market for goods to be produced.
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