Factors of Production- Economics


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Prepaered by Zubair Memon.

Source: Modren Economic Theories by K.K Dewet

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Factors of Production- Economics

  1. 1. F actors of Production: An economic term to describe the inputs that are used in the production of goods or services in the attempt to make an economic profit. The factors of production include land, labor, capital and entrepreneurship. Land: Land is defined as everything in the universe that is not created by human beings. It includes more than the mere surface of the earth. Air, sunlight, forests, earth, water and minerals are all classified as land, as are all manner of natural forces or opportunities that are not created by people. It is also called as original or primary factor of production. Normally, land means surface of earth. But in Economics, land has a wider meaning. According to Marshal: ”The material and the forces which nature gives free for man’s aid, in land and water and in air, light and heat” Components of land can be classified as:  On the surface: Like; soil, agricultural land etc.  Below the Surface: Like; minerals resources, rocks, ground water etc  Above The Surface: Like; climate, rain, space monitoring etc.Peculiarities of Labour: 1. Free gift of nature: Land is a free gift of nature to mankind. It is not a man-made factor but is a natural factor. 2. Primary factor of production: Though all factors are required for production, land puts foundation for production process. Starting point of production process is an acquisition of land. So, it is a primary factor. 3. Perfectly inelastic supply: From societys point of view, supply of land is perfectly inelastic i.e. fixed in quantity. Neither it can be increased nor decreased. Simply, you can not change size of the earth. But from individual point of view, its supply is relatively elastic. 4. Grad ability: Land varies from region to region on the basis of fertility. Some land are more fertile and some are not at all. So, fertility wise, grading of land is possible. So, in this way, land has grad ability. 5. A passive factor: Land itself doesnt produce anything alone. It is a passive factor. It needs help of Labour, Capital, Entrepreneur, etc. Like labor and entrepreneur, it doesnt work on its own initiative. So it is a passive factor. 6. May have diminishing returns:
  2. 2. Here, return means quantity of crops. By using fertility of land with the help of capital and labour continuously, returns gets diminished because of reduction in fertility. 7. Has a derived demand: Demand for agricultural goods is a direct demand and for producing such goods, land is indirectly demanded. So, as a factor, land has a derived demand from consumers point of view. 8. No social cost: Land is a gift of nature to society. It is already in existence. Land is no created by society by putting any efforts and paying any price. So, for society, supply price of land is zero. But, because for the purchase of land or for its improvement, individual has to pay certain price, so its supply price for individual is not zero. 9. Indestructible factor: Land is durable and not perishable. It has a long life. No one can destroy the land. The power of land is permanent and indestructible. Its fertility can be destroyed as well as restored by human efforts.10. Perfectly Immobile: Mobility means ability to move. Movement of land from one place to another is impossible. Thus, physically, land is perfectly immobile. But it has certain occupational mobility because it can be used for variety of occupations, like agricultural use or for construction of houses.11. Site or location value: Every piece of land has its certain site or location value. Such value depends upon quality of its location. Land near to sources of raw materials and other infrastructure facilities always enjoy high site value. Here accessibility of land plays an important role.12. Earns rent as a reward for its use: Rent is a reward for the use of land. Classical economists like Ricardo connected rent with fertility of land whereas modern economists like Marshal land Jevons stated that land earns rent because of its scarcity.
  3. 3.  Labour: As such, land simply exists. To make the gifts of nature satisfy our needs and desires, human beings must do something with the natural resources; they must exert themselves, and this human exertion in production is called labour. Usually, the term Labour is used for worker. But it is not correct in Economics. Labour and Labourer (worker) are two different things. Labour is an ability to work. It is a broad concept because it includes both physical and mental work. It is a primary or human factor of production. It indicates human resource. Marshall Defines Labour as: “Any exertion of mind or body undergone partly or wholly with a view to some good other than the pleasure derived directly from the work is called labour”.Peculiarities of Labour: 1. Inseparable from labourer: Labour can not be separated from labourer. Worker sells their service and doesnt sell themselves. 2. Labour is a perishable factor: Labour can not be stored. Once the labour is lost, it can not be made up. Unemployed workers can not store their labour for future employment. 3. Cost of labour: It is easy to calculate production cost of a commodity produced in an industry. But cost of producing a labour is a vague concept because it includes expenses incurred by parents on education of their children and other expenses incurred on them right from their birth date. It is impossible to estimate all such casts accurately. 4. Active factor of production: Other factors like land, capital are passive, but labour is an active factor of production. Being a human being, this factor has its own feelings, likes and dislikes, thinking power, etc. We can achieve better quality and level of production, if land and capital are employed properly in close association with Labour. So without labour, we cannot imagine the smooth conduct of production. 5. Heterogeneous factor: No two persons possess the same quality of labour. Skills and efficiency differs from person to person. So, some workers are more efficient than others in the same job. 6. Imperfect mobility: Labour doesnt move easily from one occupation to another because of several factors like family and cultural background, limited educational and technical skills, lifestyle, housing and transport problems, language barrier, adaptability to new environments, etc. 7. Inelastic general Supply: Supply of labour depends upon many factors like size of population, age and sex composition, desire to work, quality of education, attitude towards work, etc. Thus, supply cannot be changed easily according to changes in demand. Hence, in general, labour supply is inelastic. But for a particular industry, it may be relatively elastic.
  4. 4. 8. Human capital: Society makes investment in labour in the forms of education, health, training, etc. This improves efficiency of labour. So, it is a human capital. 9. Trade unionism factor: Workers collectively form their organization which is known as trade union. With this, they bargain with their employers and there by secure higher wages and better working conditions. Such trade unionism is not possible in other factors of production like land, else works only in case of labour (labourer). 10. Derived demand: Like other factors of production, labour has a derived / indirect demand. It contributes to production process. 11. Mean as well as an End” Labour is a mean of production in factory. But outside the factory premises worker may be a consumer of that product. So, he might be an end user of that commodity. Factors Determining efficiency of Labour: i. Racial Qualities: efficiency largely depends on the heredity. ii. Climate factors: cool Climate supports to carry out hard work. iii. Education: General and technical education also affect the work. iv. Personal Qualities: mental qualities like intelligence, alertness and activeness also affect the work. v. Industrial Organization and Equipment: levels of Equipments and that of organizations also influence the efficiency of work. vi. Factory’s Environments: Airing level of crowding also have an effect on the labour efficieny. vii. Union: Organised effort is more effective than working apart. viii. Social and political Factors: Factors like the fear to be removed from employment and social security schemes also affect the efficiency. Capital Different subjects like Book-keeping, organization of commerce (O.C), economics, etc., indicate different meanings of the term Capital. In book-keeping, capital means amount invested by businessman in the business. In commerce subjects like O.C and S.P, capital means finance or companys capital. But, in economics, capital is that part of wealth which is used for production. The word Capital is related with the following three terms: o Wealth, o Money, and o Income The relation among them is: Capital is that part of wealth which is used for production. So, wealth is a broad concept and capital is a narrowed Concept commodity is having features like scarcity, utility, externality and transferability, it becomes wealth. A motor car has all above features, so it is a wealth. When wealth is used in production
  5. 5. process, it becomes capital. If that car is used for taxi (cab) business, it becomes capital. Therefore, any commodity as a wealth becomes the capital if it is used for production. Normally, capital means investment of money in business. But in economics money becomes capital only when it is used to purchase real capital goods like plant, machinery, etc. When money is used to purchase capital goods, it becomes Money Capital. But money in the hands of consumers to buy consumer goods or money hoarded doesnt constitute capital. Money by itself is not a factor of production, but when it acquires stock of real capital goods, it becomes a factor of production. For production we need real capital and money capital but money capital acquires real capital. Capital generates income. So, capital is a source and income is a result. E.g. refrigerator is a capital for an ice-cream parlor owner. But, profits which he gets out of his business are his income.Characteristics of capital: 1. Man-made Factor: Capital is not a gift of nature. It is secondary as well as an artificial factor of production. 2. Productive Factor: Capital helps in increasing level of productivity and speed of production. 3. Elastic Supply: Supply of capital depends upon capital formation process. Capital formation depends upon savings and investment. 4. Durable: Capital is not perishable like labour. It has a long life subject to periodical depreciation. 5. Easy Mobility: Movement of capital from one place to another is easily possible. 6. Derived demand: Capital has a derived demand to produce finished goods which have a direct demand. E.g. demand for raw cotton is derived from demand for cotton cloth.Capital Formation: The process of building up the capital stock of a country through investing in productive plants and equipments. Capital formation, in other words, involves the increasing of capital assets by efficient utilization of the available and human resources of the country. It involves some stages to be consisted:
  6. 6. Stages of Capital Formation:1. Creation of Savings: These resources play an important part in promoting development activities in the country. These sources in brief are: Voluntary Savings: The savings which people make according to their will and power. In the under-developed countries, the saving potential of the people is low as a greater number of them suffer from absolute poverty. So far as the rich section of the, society is concerned, they mostly spend their wealth on the purchase of real estates. Involuntary/Forced Savings: Savings that government makes for meeting needs of the state in the form of taxes compulsory schemes for lending to the government. If the people of low and middle income groups are heavily taxed through various forms of taxation, their power, (whatever little) to save will be burdened with taxes. The tax structure is to be devised in such a manner that it should provide incentive to work, save and invest for various levels of income groups. Government Borrowing: The volume of domestic savings can also be increased through government borrowing. The government issues long and short term bonds of various denominations and mobilizes saving from the general public as well as from the financial institutions.2. Mobilization of Savings: It means to use the domestic savings in further mobilization. I-e; transfer that to the business people and the entrepreneurs. In the developing countries of the world there are many resources which remain unutilized and underutilized. If they are properly tapped and diverted to productive purposes, the rate of capital formation can increase rapidly. Enterprise: Factors of production viz. land, labour and capital are scattered at different places. All these factors have to be assembled together. This work is done by enterprise through entrepreneur. This is an Organization Function. Organization function is the work of bringing the required factors together and making them work harmoniously. The term Entrepreneur has been derived from a French word Entreprendre meaning to undertake certain activities. Entrepreneur has to bear risks and uncertainties. For facing uncertainties he may get profit or may incur loss. This is the Risk Bearing Function and entrepreneur is the risk bearer.
  7. 7. Functions of an Entrepreneur: An entrepreneur performs the following functions: o He conceives the idea of launching the project. o He mobilizes the resources for smooth running of the project. o The decision of what, where and how to produce goods are taken by the entrepreneur. o He undertakes the risks involved in production. o He is an innovator. He innovates new techniques of production, new products and brings improvements in the quality of existing products. He is in fact the captain of the industry. o In a Joint stock Organization, the entrepreneurial functions are shared between the shareholders, the directors and the top executives.Qualities / Skills of an Entrepreneur To be a successful and ideal entrepreneur, one should have certain qualities or skills as given below: 1. Ability to organize: He should be able to organize various factors effectively. He has to understand all the aspects of the business. 2. Professional approach: He should be objective and professional in approach. 3. Risk bearer: He should be risk taker. He should be ready to bear risk and uncertainties. 4. Innovative: Organizer should be innovative. He should adopt modern techniques of production. He should not be reluctant to changes. 5. Decision Making: One has to take right decision at a right time by showing his promptness. Quick decisions are expected but hasty decisions shouldnt be taken. Delay in decisions may increase cost of project and reduce the profits. 6. Negotiation skills: Businessman regularly comes into contact with various persons like consumers, workers, government officials, etc. so he should communicate tactfully.