Capital has several meanings. In most situations it refers to assets (e.g. money) for the purpose of starting a business, investing, or expanding a company. If you want to start a business you need capital, i.e. money.
In economics, capital refers to factors of production that are used to create goods or services and are not themselves in the process, i.e. machinery and equipment used in production. Unlike raw materials and intermediate goods, it is not immediately used up in the process of production.
Although it can be money, its meaning is not exactly the same. Money can be used to buy a sandwich in a coffee shop, or to tip your hairdresser – in such cases the meaning is not ‘capital’. If you are in a shop with a friend and forgot your wallet at home, you do not say “Can you lend me some capital to buy that shirt?”
The English word ‘capital’ comes from ‘capitale’, a late Latin word based on ‘Caput’, which meant ‘head’.
Generation of wealth
Capital refers to things (which can include money) that generate wealth through investment. In other words, it only means money when it is being used to generate wealth, such as setting up a new company or expanding a factory.
Capital includes money, vehicles, equipment, machinery, brand names, and patents – all these things create wealth.
Apart from being used to produce things, capital can also be rented out for a fee to create wealth.
Capital first needs to be produced – it does not exist until it is produced. In order to create wealth, it must be combined with the work of employees who exchange their time and know-how for money.
If you invest in capital by abstaining from consumption, you can enjoy prosperity later on.
Adam Smith (1723-1790), a Scottish philosopher and pioneer of political economy, known today as the father of modern economics, said:
“That part of a man’s stock which he expects to afford him revenue is called his capital.”
Some economists, like Henry George (1839-1897), an American journalist, philosopher and political economist, believed that financial instruments like mortgages, stocks, bonds, etc. could not be classed as capital because they did not create wealth. He said “their increase or decrease does not affect the sum of wealth in the community.”
A business’ capital can come from loans and/or the sale of shares.
Human capital refers to qualities that the people in a country have that can generate and increase national wealth. This includes education, skills, knowledge and experience.
Japan and Germany managed to recover rapidly after WWII because of their tremendous human capital. Both countries have highly-educated and hard-working populations.
Working capital is the money a business needs for its day-to-day trading operations.
It is calculated as current assets minus current liabilities. An entity has a working capital deficit if current liabilities are greater than current assets.
According to Oxford Dictionaries, capital is:
“Wealth in the form of money or other assets owned by a person or organization or available for a purpose such as starting a company or investing,” or “A valuable resource of a particular kind.”
Outside the world of finance and business, capital can mean the city that functions as the seat of government and administrative center of a country (Washington D.C., London, Tokyo), region or state (Sacramento, Austin, Tallahassee). The term can also refer to upper-case letter which are used at the beginning of sentences, names and proper nouns.
Video – What is capital?