Factors of production

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Factors of production are resources used in the production of goods and services in economics. Classical economics distinguishes between three factors:

Land or natural resources – naturally-occurring goods such as soil and minerals that are used in the creation of products. The payment for land is rent.
Labor – human effort used in production which also includes technical and marketing expertise. The payment for labor is a wage.
Capital goods – human-made goods (or means of production) which are used in the production of other goods. These include machinery, tools and buildings. In a general sense, the payment for capital is called interest.

These were codified originally in the analyses of Adam Smith, 1776, David Ricardo, 1817, and the later contributions of Karl Marx and John Stuart Mill as part of one of the first coherent theories of production in political economy. Marx refers in Das Kapital to the three factors of production as the "holy trinity" of political economy.

In the classical analysis, working capital was generally viewed as being a stock of physical items such as tools, buildings and machinery. This view was explicitly rejected by Marx. Modern economics has become increasingly uncertain about how to define and theorise capital (see capital controversy).

With the emergence of the knowledge economy, more modern analysis often distinguishes this physical capital from other forms of capital such as "human capital" and Intellectual Capital which require intangible management orientated techniques to manage such as Balanced Scorecard, Risk Management, Business Process Reengineering, Knowledge Management, and Intellectual Capital Management

Prior to the Information Age the land, labour, and capital were used to create substantial wealth due to their scarcity. Following the Information Age (circa 1971-1991), and the Knowledge Age (circa 1991 to 2002) and thecurrent Intangible Economy (circa 2002+) the primary factors of production today are intangible. These factors of production are knowledge, collaboration, process-engagement, and time quality. According to economic theory, a "factor of production" is used to create value and economic performance. As the four factors of production today are all intangible, the current economic age is called the Intangible Economy. Intangible factors of production are subject to network effects and the contrary economic laws such as the law of increasing returns. It is therefore important to differentiate between convetional (tangible) economics and intangible economics when discussing issues related to factors of production which change according to the economic era that society is experiencing. For example, land was a key factor of production in the Agricultural Age.

Some economists mention enterprise, entrepreneurship, individual capital or just "leadership" as a fourth factor. However, this seems to be a form of labor or "human capital." When differentiated, the payment for this factor of production is called profit. This is when entrepreneurs think of ideas, organise the other three factors of production, and take risks with their own money and the financial capital of others.

In a market economy, entrepreneurs combine land, labor, and capital to make a profit. In a planned economy, central planners decide how land, labor, and capital should be used to provide for maximum benefit for all citizens.

The classical theory, further developed, remains useful to the present day as a basis of microeconomics. Some more means that deal with factors of production are as follows:

Entrepreneurs are people who organize other productive resources to make goods and services. The economists regard entrepreneurs as a specialist form of labor input. The success and/or failure of a business often depends on the quality of entrepreneurship.
Capital has many meanings including the finance raised to operate a business. Normally though, capital means investment in goods that can produce other goods in the future. It can also be referred to as machines, roads, factories, schools, and office buildings in which humans produced in order to produce other goods and services. Investment is important if the economy is to achieve economic growth in the future.
Human Capital is the quality of labor resources which can be improved through investments, education, and training.
Fixed Capital this includes machinery, work plants, equipment, new technology, factories, buildings, and goods that are designed to increase the productive potential of the economy for future years.
Working Capital this includes the stocks of finished and semi-finished goods that we be economically consumed in the near future or will be made into a finished consumer good in the near future.

Developments and Alternative views

Classical view as the base of microeconomic theory

Although it did not deal substantially with complex issues of a sophisticated modern economy, the classical theory is useful as the basis of microeconomics, however many distinctions one cares to make or macro-theory or political economy one chooses to apply to trade them off or set their valuations in society at large.

Land has become natural capital, imitative aspects of Labor have become instructional capital, creative or inspirational aspects or "Enterprise" have become individual capital (in some analyses), and social capital has become increasingly important. The classical relationship of financial capital and infrastructural capital is still recognized as central, but there is a wider debate on means of production and various means of protection, or " rights", to secure their reliable use.

Factors of production

Developments and Alternative views

Classical view as the base of microeconomic theory

See also