Capital Market

Definition:

The means by which large amounts of money (capital) are raised by companies, governments and other organizations for long term use and the subsequent trade of the instruments issued in recognition of such capital.

Types:

There are two types of financing/capital markets:

(1) Money Market.

(2) Capital Market. 

(1) Money Market:

Money market is the market for very short term loans. It mainly centers round its activities on the discount houses, the commercial banks. The money market, deals in various credit instruments such as, the bill of exchange, short dated bonds, certificate of deposits, the treasury bills, etc.

                

(2) Capital Market:

Capital market refers to a market where the financial institutions mobilize the savings of the people and lend them for long term, period for raising new capital in country. Capital Market, in other words, refers to the long term borrowing and lending of capital funds.

Capital Market Instruments:

The principal capital market instruments used for long term funds are:

(i) Mortgages.

(ii) Corporation bonds.

(iii) State and local government bonds.

(iv) Federally sponsored credit agency securities.

(v) Finance company bonds.

(vi) Commercial banks bonds and commercial paper.

(viii) Corporate stock.

Institutional sources of Capital Market:

There are a number of financial institutions which are directly involved with real investment in the economy. These institutions mobilize the saving from the people and channel funds for financing the development expenditure of the industry and government of a country.

The financial institutions take maximum care in investing funds in those projects where there is high degree of security and the income is certain. The main institutional sources of capital market are as follows:

(i) Insurance Companies. Insurance companies are financial intermediaries. They call money by providing protection from certain risks to individuals and firms. The insurance companies invest the funds in long term investments primarily mortgage loans and corporate bonds.

(ii) Pension Funds. The pension funds are provided by both employees and employers. These funds are now increasing utilized in the provision of long term loans for the industry and government.

(iii) Building Societies. The building societies are now activity engaged in providing funds for the construction, purchase of buildings for the industry and houses for the people.

(iv) Investment Trusts. The investment trust mobilize saving and meet the growing, need of corporate sector, The income of the investment trust depends upon the dividend it receives from shares invested in various companies. 

(v) Unit Trust. The Unit Trust collects the small savings of the people by selling units of the trust. The holders of units can resell the units at the prevailing market value to the trust itself. 

   

(vi) Saving Banks. The saving banks collect the savings of the people. The accumulated saving is invested in mortgage loans, corporate bonds.

(vii) Specialized Finance Corporation. The specialized finance corporations are being established to help and provide finance to the private industrial sector in the form of medium and long term loans or foreign currencies.

(viii) Commercial banks. The commercial banks are also now activity engaged in the provision of medium and long terms loans to the industrialists, agriculturists, specialist finance institutions, etc., etc.

(ix) Stock Exchange. The stock exchange is a market in existing securities (shares, debentures and securities issued by the public authorities). The stock exchange provides a place for those persons who wish to sell the shares and also wish to buy them. Stock exchange, thus helps in raising equity capital for the industry

Capital Formation:

Meaning and Definition:

Capital is one of the important factors which governs the quantity and the composition of output in a country. If there are increasing resources of capital in a country, it results in technological discoveries, raises productivity of labor, increases the rate of economic development and provides higher standard of living for the masses.

In case, there is deficiency of capital assets such as machinery equipment tools, dams. roads, railways, bridges, etc., etc., the country then remains trapped in the vicious circle of poverty. Capital accumulation/formation, thus, in brief is at the vary core of economic development.

It may here be remembered that though capital occupies a central position, to the process of development yet, we cannot ignore the other factors like education, effective government, social Justice, attitude of the people to work, etc., etc. These factors play a significant role in the economic progress of a country.

Economic development is thus a multidimensional phenomenon which is the result of a combination of social, cultural, political, and economic factors. To quote Ranger Nurkse:

"Economic development has much to do with human endowments, social attitudes, political conditions, and historical accidents. Capital is necessary but not a sufficient condition of economic progress".

Capital Formation:

Capital formation is 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.

  

Sources of Capital Formation and Importance:

The stock of capital goods can be built up and increased through two main sources:

(1) Domestic Resources and (2) External Resources.

(1) Domestic Resources:

Domestic resources play an important part in promoting development activities in the country. These sources in brief are:

(i) Voluntary Savings. There are two main sources of voluntary savings (a) households (b) business sector. As regards the volume of personal savings of the households. It depends upon various factors such as the income per capita, distribution of wealth, availability of banking facilities, value system of the society, etc.

In the under-developed countries, the saving potential of the people is low as a greater number of them suffer fromabsolute poverty. So far as the rich section of the, society is concerned, they mostly spend their wealth on the purchase of real estates. luxury goods, or take it abroad to safe keeping. There is, therefore very little saving forthcoming from the high income group.

The business sector is an important source of voluntary savings in the less developed countries. They usually hesitate in assuming the risks associated with investment. The fear of nationalization and political instability further demands their incentive to save and invest in the country. The statistics of many underdeveloped countries indicate that both these sources hardly manage to save 15% of their GDP. This is not even sufficient to maintain the present standard of living of the masses. 

                     

(ii) Involuntary Savings. In the developing countries, the income per capita of the people is low. Their propensity to consume mainly due to demonstration effect is very high. As the flow of savings is inadequate to meet the capital needs of the country, the government, therefore adopts measures which restrict consumption and increase the volume of savings.

The traditional methods used for increasing the volumes of savings are (a) taxation (b) compulsory schemes for lending to the government. The two fiscal measures stated above are very sensitive and delicate: They should be devised and handled very carefully.

For instance, 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.

(iii) 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 genera! public as well as from the financial institutions.

In the developing countries, there are many obstacles which stand in the way of government's borrowing. For instance, the money and capital market is unorganized. The rural sector is not provided with adequate financial institution. People being illiterate prefer to invest their savings in gold, jewellery, etc. The government of developing countries should, therefore, evolve a  workable programme of mobilizing the savings of the people both in the urban and rural sectors.

(iv) Use of Idle Resources. 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.

For instance, in most of the low income countries, there is a disguised unemployment in the rural sector. If the surplus farmers are employed at nominal wages in or near their villages for the construction of roads, tube-wells, canals, school buildings, etc., or their services are acquired on self-help basis for capital creating projects, they canbe a valuable source of capital formation in the country.

(v) Deficit Financing. Deficit financing is regarded an important source of capita! formation. In the developed countries this method is used for increasing effective demand and ensuring continued high levels of economic activity. In the less developed countries, it is used to meet the development and non development expenditure of the government.

(2) External Resources:

External resources has following types:

(i) Foreign Economic Assistance. There is a controversy over the impact of inflow of capital for the development of a country. It is argued that capital is one of the variable in the growth process. If the government of a country is ineffective and people are not receptive to social changes, the inflow of capital resources and technical assistance would go waste.

In case, the developing nations needing foreign capital and technical assistance have the will to absorb capital and technical knowledge and the social and political barriers are overcome, capital then becomes the touchstone of economic development. The main benefits of the foreign economic assistance, however, in brief are as under:

(a) Foreign loans bridge saving gap. In Pakistan, like most of the developing countries, the domestic saving average 14% of GDP. The low rate of saving is not sufficient to achieve the desired rate of growth in the country. Foreign loans supplement domestic savings and help in bridging the resource gap between the desired investment and the domestic savings.

       

(b) Close the trade gap. In Pakistan, the export earnings are persistently falling short of import requirements. The foreign, exchange gap caused by excess of import/export is being filled up with inflow of capital.

(c) Provides greater employment opportunities. The financing of various projects with the help of foreign assistance provides greater employment opportunities in a country. 

(d) Increase in productivity of various economic sectors. The inflow of capital and technical know-how increases the productive capital of various sectors of the economy.

     

(e) Increase in real wages. The foreign resources help in increasing marginal productivity of labor in the recipient country. The real wages of the workers are thus increased with the help of foreign assistance.

(f) Provision of higher products. The foreign capital helps in the establishment of industries in the country. The inflow of technical knowledge improves the quantity and quality of manufactured goods and makes them available at lower prices to the domestic consumers.

(g) Increase in tax revenue. The profits earned on foreign investment are taxes by the government, The revenue of the state is thus increased.

(h) External economies. The inflow of foreign capital and advanced technology stimulates domestic enterprises. The firm avails of the benefits of external economies like that of training of labor, introduction of new technology, new machinery, etc., etc. 

           

(ii) Donor Country and the Economic Assistance: Here a question can be asked .as to why the developed nations are kind in giving aid to the developing countries? According to the rich nations, the foreign aid is given for a combination of humanitarian and self-interest reasons:

    

(a) Humanitarian ground. If a country is faced with famine, drought, epidemic, diseases, earthquake etc., it is obligatory for the developed nations to help that country financially purely on humanitarian grounds. The rich countries are extending economic assistance in the form of grants to the poor nations of the world. 

(b) Self-interest reasons. Foreign economic assistance is also provided on the following self interest reasons by the donor countries.

(a) The foreign aid may be given to protect the developing country from the influence of-other camp countries.

             

(b) The donor country may have surplus products. In order to check the fall in the prices of products in the domestic market and to maintain level of production, the surplus goods are exported to the needy countries on loan. 

   

(c) Economic assistance is also provided by the. donor countries to remove the economic disparities among the nations of the world.

(d) Some advanced nations particularly the socialist countries provide financial and technical help for the propagation of political ideology in the capitalist developing countries.

(e) Foreign aid is also given for increasing the camp followers of the donor countries.

Capital as Factor of Production:

Meaning and Definition:

Capital is an important factor of production. It consists of those goods which are produced by the economic system and are used as inputs in the production of further goods and services. Capital may be physical or tangible or intangible. Capital goods yield valuable production services over time.

Physical or Tangible Capital:

The material things which are used as inputs in the production of future goods are called tangible capital. The major categories of tangible capital office buildings, power plants, factories, ware-houses, machines, inventories of inputs, roads, highways, etc.

Intangible Capital:

Intangible capital consists of non material things that contribute to the output of future goods and services. For example, investment by a firm in advertising to establish a brand name, or establishing a training programme for employees to increase their still (human capital) is an input and so included in capital.

Functions of Capital:

Capital occupies an important position in determining the rate of economic development in the country. The main functions of capital, in brief, are as under:

      

(i) Capital provides equipments which help in the process of economic development.

             

(ii) An increase in the stock of capital goods like machinery factories, equipments, buildings, economic overhead capital (transport, railroad, communication, etc) and equipment for education, health, shelter etc., enhances the growth of output per capita and consequently the income per capital raised.

(iii) The accumulation of capital makes the labor better equipped and delays the operation of law of diminishing returns in agriculture and industry to a great extent.

(iv) Capital determines the quantity and also the composition of output in the economy.               

(v) Capital puts the economy on the path to development. It results, in technological discoveries.

(vi) The availability of capital helps in the creation of employment opportunities in the country.

                    

(vii) Capital adds value to the products.      

(viii) An increase in the stock of capital once initiated feeds on itself. The process of capital formation thus becomes interacting and cumulative.

Mobility of Labor:

Meaning and Definition:

"Mobility of labor refers to movement of labor from one place to another or changing of profession or status or grade".

Types:

Mobility of labor is of five types.

(i) Geographical mobility. It means the movement of labor from one peace to another.

       

(ii) Horizontal mobility. Horizontal mobility of labor is from one Job to another having similar status or salary in the same or some other profession.

          

(iii) Vertical mobility. It is the movement of worker from a junior position to a senior position. 

    

(iv) Occupational mobility. If refers to the change of profession by a worker for higher status or income. 

(v) Social mobility. It is the movement of worker from one social class to another e.g., the daughter of a labor becomes a doctor.

Factors Promoting Mobility of Labor:

The main factors which promote mobility of labor are:

(i) Increase in wages.

(ii) Better conditions of work.

(iii) Strong urge to make progress in life.

(iv) peace and security.

(v) Better means of communication and transport.

(vi) Quality of education.

(vii) Development projects.

Obstacles to Mobility of Labor:

          

The main hindrances or obstacles to mobility of labor are as under:

(i) Home sickness.

(ii) Unfavorable climatic conditions.

(iii) Difference in customs.

(iv) Language barrier.

(v) Restrictions imposed by the government.

(vi) political disturbances.

(vii) Ethnic disturbances.

Division of Labor:

Meaning and Definition:

"By division of labor is meant the specialization, of work. It refers to splitting up of a task into a number of processes and sub-processes and carrying it out by a person or a group of persons who are best fitted for it".

Definition by Adam Smith:

"The division of labor by reducing every man business to some one simple operation and by making this operation the sole employment of his life necessarily increases very much the dexterity of the worker".

Division of labor may be simple, complex, or territorial. When different groups of people specialize in different kinds of works, the division is said to be simple. For example, one man specializes in weaving doth, the other in making shoes, still another in making implements for the agriculturist, etc.

Types and Examples:

Two types are given below:

(1) Complex Division of Labor:

When a particular work is split up into different processes and sub-processes and each process is carried out by a single person or a group of persons, the division of labor is said to be complex. For example, in a needle manufacturing industry, no one specializes in the making of a whole pin. The work is split up into different processes and each worker is assigned a definite part in the whole work.

(2) Territorial Division of Labor:

When a certain locality specializes in the production of a particular commodity, the division of labor is said to be territorial. For instance, Pakistan has specialized in the' manufacturing of sports goods, Bangladesh in the production of Jute goods etc.

Advantages/Merits:

The system of division of labor has proved very beneficial to society. The main benefits arising out of division of labor are briefly discussed as below:  

(i) Increase in Productivity. Division of labor helps in bringing about a vast increase in productivity. This fact can be better explained if we quote what Samuelson has said about it:

"Ten persons, however, were found to manufacture among them 48 thousand pins in a day or 4,800 pins per head per day. Individually and acting separately one man could scarcely have manufactured 20, and may not perhaps even more than on a day. The efficiency was due, of course, in consequence of a division and combination of different "operation".    

(ii) Increase in Dexterity and Skill. Division of labor increases dexterity and skill of the workers. When a person continuously works at one task for a longer time, he becomes expert of that task. Quoting from Adam smith's Wealth of Nation:

"The division of labor by reducing every man business to some one simple operation and by making this operation the sole employment of his life necessarily increases very much the dexterity of the worker".

(iii) Division of Labor stimulates Inventions. When a man is doing the same job over and over again, he always keeps in mind as to how the work can be made easier. He sometimes succeeds in inventing easier methods of production.

(iv) Diversity of Employment. Division of labor splits up one work into many parts. With the division of work, the range of occupation increases. This gives opportunity to all types of workers such as young man, women, aged people, children, crippled persons, etc., to get employment.

(v) Economy in the use of Machinery and Tools. When division of labor is introduced in a certain work, there is a continuous use of machinery and tools and they do not remain ideal. For instance if a worker is assigned the job of sewing shirts, he will be all the time in need of sewing machine and not complete set of implements needed for sewing the clothes. 

                 

(vi) Saving in Time and Efforts. If a worker has to learn all the processes of producing a commodity, then the period of apprenticeship will be fairly long. In case, the work is split up into small processes, the task can be specialized in a short period and there can be much economy in time and efforts.  

(vii) Large Scale Production at Cheaper Cost. Another advantage claimed by division of labor is that it makes possible larger production at lesser cost.

(viii) Right man for the Right Job. Division of labor helps in bringing about the right man in the right place. When there are too many jobs, every man tries to get himself absorbed in a work, where he thinks himself to be best fitted. Thus, the chances of putting, square pegs in round holes are minimized.

(ix) Increased in the use of Machinery. As the work is split up into a number of processes, each process of production becomes so simple and easy that it can be easily taken over by machines invented for that particular process. It is in this way, we say, that division of labor leads to extensive use of machinery.

                   

Disadvantages/Demerits:

Division of labor is not an unmixed blessing. It gives rise to certain disadvantages also. They are briefly discussed below:

(i) Repetition Increases Monotony. When a worker has to perform the same work over and over again, it creates sense of boredom in him. His individual incentive is curbed. It is in fact, a poor record of a man's whole life never to have made more than 18th part of a pin.

          

(ii) Loss of Responsibility. Where a particular commodity is the Joint product of a number of workers who are generally unknown to each other, they do not feel responsibility of their work. Moreover, the workers do not feel pleasure and pride in it. The creative instinct of the workers thus slackens.

(iii) Risk of Unemployment. If a person specializes in a part of the job and totally depends upon it, then he can always be in danger of unemployment.

(iv) Evils of Factory System. There is no doubt that division of labor involves production on a large scale but the other side of the picture is that it brings over crowdedness, slums, immorality, loss of individual freedom, strained relations of the employer and the employees, etc., along with it. These we all name as the evils of factory system.

(v) Disruption of Family Life. Another evil which is associated with division of labor is that it bring disruption, in family life. As division of labor provides opportunities for employment to women and children, so, it results in the break up of the family life.

Conclusion:

If we carefully weigh the disadvantages associated with division of labor against its manifold advantages, we will easily find that the advantages far outweigh the disadvantages. Most of the disadvantages can be removed and minimized as they are actually removed and mitigated in advanced countries.

Entrepreneur as a Factor of Production:

Definition:

The entrepreneur is an organizer. He is the person who organizes production by bringing together the other three factor of production land, labor and capital.

Benham defines:

"An entrepreneur as a person who controls the policy of the firm".

Functions of an Entrepreneur: 

      

An entrepreneur performs the following functions:

(i) He conceives the idea of launching the project.                 

(ii) He mobilizes the resources for smooth running of the project.

(iii) The decision of what, where and how to produce goods are taken by the entrepreneur.

                                          

(iv) He undertakes the risks involved in production.

         

(v) 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.  

(vi) In a Joint stock Organization, the entrepreneurial functions are shared between the shareholders, the directors and the top executives

Labor as a Factor of Production:

Meaning and Definition:

                        

"Labor is an important factor of production. It is described as any human work which is performed with the help of mind or physique with a view to earn income".

Characteristics/Features:

(i) Labor as a source. Labor is the source of his own labor power, It is inseparable from labor himself.

(ii) Labor is perishable. A worker cannot store his labor. It is perishable.

(iii) Difference is labor power. The labor power differs from worker to worker.

Land as a Factor of Production:

Meaning and Definition:

The term land in economics is used in a special sense. It does not mean soil or earth surface alone. Land in economics means natural resources. It includes all those things which are found under and over the surface of earth. In the words of Marshall:

"The land means the material and the forces which nature gives freely to man's aid in land and water, in air and light and heat".

              

Characteristics/Features:

The main characteristics/Features of land as a factor of production are as follows:

(i) Supply of land. The supply of land from the point of view of the economy is perfectly inelastic. However, from the point of view of a firm, it is relatively elastic.

(ii) No geographical mobility. Land has no geographical mobility. It cannot be shifted from one region to another region.

(iii) Land differs in fertility. All the plots of land are not homogeneous. They differ in fertility.

(iv) Land is permanent. The power of the soil is original and indestructible.

Economic Resources:

Definition and Types/Classifications:

"Economic resources are those scarce resources which help in the production of goods and services".

The economic resources are classified under two main heads:

(1) Property Resources and (2) Human Resources.

(1) Property Resources: In property resources, we include land and capital. The term land is used to describe all natural resources which are used in the process of production and yield income. These resources which are free gifts of nature include agricultural land, forests, mineral deposits, fisheries, rivers, lakes, oil deposits, etc.

The term capital refers to all man made resources which aid to production. Thus machinery, equipment, tools, factories, storage, transportation, etc., which are used in the production of new goods and supplying them to the ultimate consumers are capital resources.

(2) Human Resources: Human resources include labor and entrepreneurial ability. Labor in economics refer to human effort, physical and mental which is directed to the production of goods and services. Thus factory worker, clerk, typist, teacher, doctor. Judge, physicist, etc., fall under the category of labor.

It may here be noted that it is the services of labor which are bought and sold for money and not the labor itself. As regards the supply of labor, it depends upon the (i) size of total population (ii) age composition of the population (iii) the availability working population (iv) the working hours devoted to production (v) the remuneration paid to the workers, etc., etc.

Definition of Entrepreneur or Enterprise:

The entrepreneur or enterprise is the person who takes initiative and combines resources for the production of goods and services (i) makes basic business policy decisions (ii) attempts: to introduce new products, newtechniques, new forms of business organization, etc., and (iii) bears risk.