Capital Goods
Capital goods are the durable, man-made resources used in the production of other goods and services. They include machinery, equipment, tools, buildings, infrastructure, and vehicles, and they are distinguished from consumer goods, which are purchased for final use. Investment in capital goods is a primary driver of economic growth, as it adds to the productive capacity of an economy.
Definition
Capital goods are goods that are used to produce other goods and services rather than being consumed directly. In economics, the term refers to produced means of production—that is, goods that are themselves outputs of the production process but are used as inputs in further production.
The distinction between capital goods and consumer goods is fundamental to national accounting. Consumer goods are purchased by households for final consumption; capital goods are purchased by firms for use in production. The value of capital goods is not counted in consumption but is recorded as investment in the national accounts.
Relationship to the factors of production
Capital goods are one of the principal categories of the factors of production, alongside land, labour, and entrepreneurship. As a factor of production, capital has several distinctive features.
It is produced, unlike land, which is a natural resource. It is durable, yielding services over an extended period rather than being used up in a single production cycle. It is man-made and therefore the result of investment. It is reproducible, meaning that more can be created through production, subject to the availability of resources.
Types of capital goods
Capital goods can be classified in various ways.
Machinery and equipment include the tools and machines used in manufacturing, construction, and other industries.
Buildings and structures comprise factories, offices, warehouses, and other commercial and industrial premises.
Infrastructure includes roads, bridges, ports, electricity grids, and telecommunications networks—long-lived assets that support production throughout the economy.
Vehicles such as trucks, ships, and aircraft used for transportation in production and distribution.
Information technology including computers, software, and communications equipment.
Biological assets such as livestock and orchards that yield products over time.
Capital formation and investment
The creation of capital goods is called capital formation or gross fixed capital formation. Investment in capital goods is a major component of aggregate demand and a key determinant of long-run growth.
Capital formation involves several stages: saving, by which resources are set aside for investment; the channelling of saving into investment through financial markets; the actual production of capital goods; and their deployment in production.
The rate of capital formation is closely related to the rate of economic growth. Economies that invest a larger share of their output in capital goods tend to grow faster, though the relationship is subject to diminishing returns.
Capital goods and economic growth
Capital accumulation—the growth in the stock of capital goods—is a central driver of economic growth. In the Solow–Swan growth model, increases in the capital stock raise output but are subject to diminishing returns, so that sustained growth ultimately depends on technological progress.
The capital-to-labour ratio affects labour productivity: workers equipped with more and better capital goods produce more output per hour. Investment in capital goods is therefore a means of raising productivity and living standards.
The quality of capital goods matters as well as the quantity. Advances in technology embodied in new capital goods—such as more efficient machinery or more powerful computers—raise productivity beyond what is possible with older equipment. This process of embodiment is a key mechanism through which technological progress affects growth.
Depreciation and maintenance
Capital goods wear out or become obsolete over time, a process reflected in depreciation (also called capital consumption). To maintain the capital stock, investment must exceed depreciation; to expand it, investment must exceed depreciation by a sufficient margin.
Net investment is defined as gross investment minus depreciation. Net investment measures the increase in the capital stock and is a better indicator of the economy's capacity for future growth than gross investment alone.
Distinction from financial capital and human capital
It is important to distinguish capital goods from certain related concepts.
Financial capital refers to money and financial assets—funds available for investment—rather than to the physical means of production. Financial capital is a means of financing the acquisition of capital goods.
Human capital refers to the skills, knowledge, and health embodied in people. It is analogous to physical capital in that it is a produced factor of production that yields returns over time, but it is embodied in individuals rather than in physical objects.
Natural capital refers to the stocks of natural resources and ecosystem services.