Production and factors of production
The word ‘production’ usually means the making of physical objects, or the growing of crops. In economics, however, it has a much wider meaning. Production takes place so that people’s wants are satisfied. Production includes the output of services as well as goods.
The resources employed to produce goods and services are factors of production. They are classified into four major groups: natural resources (land), human resources (labour), manufactured resources (capital), and entrepreneurship which brings all these resources together for production. Each factor of production has a particular function. In a literal sense anything contributing to the productive process is a factor of production.
Natural Resources: Land and Mineral Resources
Natural resources are not created by people. As an asset, they include the surface of the earth, anything on the ground (such as buildings, crops, forests, water), above the ground (air, sunlight, wind and space), and under the ground (mineral resources). Some natural resources, wheat, for example, are renewable; others such as iron and ore are non-renewable and will sooner or later be used up. The supply of land, an essential natural resource, is limited and cannot be easily increased to meet an increase in demand. Land can be used for housing or offices, for mining, or for building roads as well as for production of crops. The price paid for the use of land is called rent, which becomes income to the owner of the land.
To make the gifts of nature satisfy our needs and desires, people must process natural resources; they must use their efforts, and this usage is called labour.
Human Resources: Labour
Physical and mental efforts, which people put into the creation of goods and services, are called labour. Labour has a variety of functions: production of raw materials, manufacturing final products, transferring things from one place to another, management of production, and services. The price paid for the use of labour is called wages. Wages represent income to workers who own their labour. Payment for the use of someone else’s money or capital is called interest. Demand for labour depends upon the demand for goods produced by workers, the proportion of wages in total production costs, etc. The supply of labour depends upon the size of population, geographic mobility, skills, education level, etc. The contribution of labour to the production process can be increased. The efficiency of labour is described as productivity and is usually measured in terms of output per worker’s hour. Workers in firms which are well organized, well managed and which use up-to-date equipment will generally be more efficient than those employed in firms poorly equipped and badly managed.
The goods which satisfy human desires and have exchange value are called wealth. When some of the wealth is used to produce more wealth, economists refer to it as capital.
Manufactured Resources: Capital
In economic theory, the term ‘capital’ refers to goods and money used to produce more goods and money. There are different classifications of capital, the most general distinction is the one made between physical, financial, and human capital. Physical capital is land, buildings, equipment, and raw materials. Bonds, stocks, available bank balances are included in the financial capital. They both make a great contribution to production. Human capital is knowledge that contributes ‘know-how’ to production. Some firms believe that their employees are their most important asset. Like physical capital, human capital is very important and can be considered an indicator of economic development of a nation.
Capital can be divided into fixed capital and working capital. The former refers to means of production such as land, buildings, machinery and equipment. They do not change their form in the process of production. A manufacturing firm would describe its factory buildings and machinery as fixed capital. For a farmer, fixed capital would be assets such as barns, cowsheds, milking machines and tractors. They are durable, that is, they participate in the production process over several years. Working capital includes those things which are used up in the process of production; that is they are changed into some other form. A farmer’s seeds and fertilizers, a shoe manufacturer’s stock of leather, and a furniture maker’s supplies of timber are good examples of working capital.
Capital and labour are active factors while land is passive. Labour operates capital to produce. The ration of labour and capital is a major decision almost all firms must take. Neither too much labour per unit of capital, nor too much capital per unit of labour is acceptable.