“Capital is opposed to labor, and the rich get richer while the poor get poorer” is a phrase heard all too often.
It’s often repeated by those who misunderstand the true economic relationship between capital formation and the productivity and real income of workers.
- I have previously written about how our understanding of the causes of economic progress can assist human flourishing and our fulfilling the cultural mandate.
- I later explained the nature and beneficial consequences of division of labor and how voluntary exchange is necessary for the division of labor to thrive.
Something often forgotten, however, is that a highly developed division of labor would be impossible without capital formation—another engine of economic development.
What is Capital, and Why Does It Matter?
Capital goods are produced means of production: tools, machines, buildings, and intermediary goods.
What we call capital is merely the sum of the monetary value of all a firm’s assets that are dedicated to that firm’s productive operations minus the sum of the monetary value of all of a firm’s liabilities. These assets may consist of land, physical plant, tools, machinery, goods-in-process, receivables, cash, etc.
Therefore, capital formation should be no more suspect than any other economic activity. Fulfilling the cultural mandate in our fallen world without either starving to death or killing one another requires productive labor. Sustaining a growing population requires increases in productivity.
This is why capital is a blessing.
- The use of capital goods increases the productivity of the user, by allowing people to produce a greater quantity of output in the future.
- They also enable people to produce some goods that could not be had at all without capital goods, such as watches, automobiles, or smartphones.
- By increasing our productivity, they allow people to obtain more goods at lower prices, raising real incomes for all who participate in economic society.
However, capital goods do not spontaneously spring fully developed from nature. Before capital goods can be used, they must be produced.
What Does Capital Require of Us?
Producing capital goods takes time. In order to obtain capital goods it is necessary to save and invest these saved resources toward the formation of capital.
Additionally, because capital goods are perishable, they must be replaced with further investment. At any moment in time, therefore, each producer faces three options:
- Accumulating capital. This requires a certain amount of saving.
- Maintaining capital. This also requires a certain amount of saving.
- Consuming capital. This only requires that the producer use up his capital stock.
The choice regarding whether a producer is going to accumulate, maintain, or consume his capital depends upon how much that producer is willing to put off present consumption in order to invest in a better future.
Who Does Capital Benefit?
Note that the blessings of capital are not solely or even primarily important for the so-called 1 percent. They are even more important for those on the low end of the income spectrum.
A few years ago PBS NewsHour featured this hopeful item on Martin Fisher, a socialist and a designer who went to Africa wanting to help poor Africans escape poverty. After six years of disappointment, he became, as he put it, “a small-‘c’ capitalist” selling water pumps to farmers.
Fisher might have realized what economist Hernando de Soto discovered in his own research, published in his book, The Mystery of Capital. Describing what he and his research team found, de Soto writes,
…most of the poor already possess the assets they need…Even in the poorest countries, the poor save. The value of savings among the poor is in fact, immense – forty times all the foreign aid received throughout the world since 1945…But they hold these resources in defective forms: houses built on land whose ownership rights are not adequately recorded, unincorporated businesses with undefined liability, industries located where financiers and investors cannot see them.
In order to escape poverty, the poor need to invest their savings in productive capital. Capital, far from being a curse, can in fact be a blessing for the poor and those seeking flourishing in our time.