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Friday, 24 August 2018

Capital formation- meaning and importance

Meaning of capital

Capital is used in creating wealth and generating of income. The term "Capital" generally means capital goods e.g. plant, machine, raw material etc.

Raw material is used up in a single act of consumption. Money spent on raw material is recovered when goods made with them are sold.

Plant and machinery on the other hand is not used for resale.It is used for further production of consumer goods or capital goods. Plant and machinery is a long term permanent investment.

Capital formation- Essential for growth

Importance of Capital formation

Without capital, economic development is not possible. Fast production without capital is impossible. Nature has given various resources to us but we cannot possess these resources without capital.

 We cannot obtain coal from mine without machines. A farmer cannot produce adequately without tractor and other capital goods being used in farming. Hence more capital formation in the economy leads to more production. More production increases level of employment and aggregate demand in the economy.

What is capital formation?

Capital formation means change in stock of fixed assets during an year. If a producer has two machines in the beginning of year and three machines at the end of year , there is capital formation of one machine.

Capital formation can be understood as process of creating more capital goods which are used for further production. For capital formation savings and investment are important.

Click here to know about stages of capital formation

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