Chapter 2

FACTORS OF PRODUCTION
The Importance Of Factors of
Production
• Factors of production are resources that are the building blocks of the
economy; they are what people use to produce goods and services.
Economists divide the factors of production into four categories: land,
labor, capital, and enterprise.
Land:-in general terms includes the earth in which crops are grown, and
on which offices and factories are built, but in economics it has a wider
meaning. It covers any natural resource which is used in production. So
besides the land itself, it also includes what is beneath the land, such as
coal, what occurs naturally on the land, for example rainforests, and the
sea, oceans and rivers and what is found in them, for example fish.
• Labor:- Labor covers all human effort. This includes both the mental
and the physical effort involved in producing good's and services. A
road sweeper, a steel worker and a bang manager all contribute their
labor. Confusingly, we sometimes also refer to human capital.
• Capital :- Capital would have to be used in the diversion of the course
of a river. Capital is any human made (manufactured) good used to
produce other goods and services. It includes, for example, offices,
factories, machinery, railways and tools.
• Capital is also referred to as capital goods and producer goods.
Economists distinguish between capital goods and consumer goods.
Capital goods are not wanted for their own sake, but for what they can
produce. In contrast consumer goods, such as food, clothing and
entertainment, are wanted for the satisfaction they provide to their
owners.
• Enterprise:- Enterprise is the willingness and ability to bear uncertain
risks and to make decisions in a business. Entrepreneurs are the people
who organize the other factors of production and who crucially bear
the risk of losing their money if their business fails. Entrepreneurs
decide what to produce by taking into account consumer demand and
how to provide it. Some of the risks faced by any business can be
insured against, for example fire, and theft. Other risks, however, have
to be borne by entrepreneurs. This is because some events are not
anticipated, based on past events, and so cannot be insured against.
These include the uninsurable risks of other firms bringing out rival
products and the rising costs of production.
Mobility of the Factors of
Production
• Most land is occupationally mobile. This means that it can be used for
a number of purposes. Land which is currently being used for farming
may be used instead to build houses. Trees can be used to make tables
or sleepers for railway lines.
• Land, in its traditional sense, is geographically immobile. It is not
possible to move a section of land from Sri Lanka to India, for example.
Some forms of land, in its wider meaning, can be moved to a certain
extent. For example, the course of rivers can be diverted and wildlife
can be moved.
The Mobility of Labor
• Mobility of labor varies. Some workers may find it difficult to move from one area of
the country to another, or from one country to another (geographical immobility),
and some may find it difficult to switch from one type of job to another type
(occupational immobility). The causes of geographical immobility include:-
• Differences in the price and availability of housing in different areas and countries.
Workers who lose their jobs in poor areas may not be able to take up jobs in rich areas
because they cannot afford or find housing there.
• Family ties. People may be reluctant to leave the country they are currently living in
because they do not want to move away from friends and relatives.
• Differences in educational systems in different areas and countries. People may not be
willing to move to a job elsewhere if it disrupts their children's education.
• Lack of information. People without jobs, or those in poorly paid jobs, may stay where
they are because they are unaware of job opportunities elsewhere.
• Restrictions on the movement of workers. It is often necessary to obtain a work visa to
work in another country and these can be limited in supply.
The Mobility of Labor
• Capital mobility refers to the ability to seamlessly move the capital
from one area to another, typically from one country to another. In
addition, true capital mobility involves the ability to move the capital
from one area to another and not incur any costs or fees.
• the geographical or occupational mobility of capital varies according to
the type of capital goods.
• Some types of capital goods can be transferred from one part of the
country to another.
The Mobility of Enterprise
• Enterprise moves when people who carry out the function moves.
These people are called entrepreneurs.
• The mobility of enterprise depends on the mobility of entrepreneurs.
• Enterprise is the most mobile factor of production. The skills involved
in being an entrepreneur can be applied in every industry. Generally
speaking, entrepreneurial mobility can be classified into two different
sections. They are as follows; occupational mobility and location
mobility.
Quantity and Quality of the
Factors of Production
The Quantity of Land:- amount of physical land in existence does not
change much with time. There is a certain degree of soil erosion which
reduces the supply of agricultural land, but also a certain amount of land
reclamation which increases its supply. Other natural resources, however,
can change quite significantly. Rainforests are currently declining at a
rapid rate.
The Quality of land:- There are a number of reasons why the quality of
natural resources may increase. Fertilizers can be applied to fields to
increase the fertility of the land. The purity of rivers, and so the health of
fish in the rivers, can be improved by stopping firms polluting the rivers.
Providing good drainage can increase the yield from fruit trees.
• The quantity of labor:- The quantity of labor is influenced by two key factors. One is the
number of workers available and the second is the number of hours for which they
work.
• The number of available workers is determined by:
• The size of the population:- The larger the population, the more workers there
are likely to be.
• The age structure of the population.:- A country with a high proportion of
people of working age will have more workers than a country with the same
population size, but a higher proportion of people who would be too young or
too elderly to work.
• The retirement age:-The higher the retirement age, the more potential workers
there will be.
The school leaving age:-Raising the school leaving age would reduce the number
of workers.
• Attitude to working women:- Countries where it is acceptable for women to
The number of hours which people work is influenced by (among other
factors:-
• the length of the average working day, for example full-time workers in
the USA tend to work for longer hours than those in European Union
countries
• whether they work full or part-time, for example more people in the UK
work part-time than those in France
• the duration of overtime
• the length of holidays taken by workers
• the amount of time lost through sickness and illness.
Labor Productivity
• Labor productivity is a measure of economic performance that
compares the amount of output with the amount of labor used to
produce that output.
The Quality of labor:-quality of labor can be improved as a result of
better education, better training, more experience and better healthcare.
A better educated, better trained and more experienced labor force will
be able to carry out more difficult tasks, work with more complex
machinery, and equipment, and produce more and better quality
products. A healthier labor force will be able to concentrate more, be
stronger for any manual tasks and will have fewer days.
The Quantity of Capital
• The quantity of capital is influenced by investment and tends to
increase with time. Every year some capital goods physically wear out
and some become outdated, for example a farm barn may fall down
and some machinery may be replaced by newer, more efficient
machinery.
• New capital goods, however, usually take the place of those goods,
which firms are unable (Or choose not) to use any more. The total
value of the output of capital goods produced is referred to as gross
investment. Some of the capital goods being produced will be
replacing those which have worn out or become obsolete. The value of
replacement capital is called depreciation.
 The Quality of Capital
• Advances in technology enable capital goods to produce a higher output and
a better quality output. The development of robotics in car production, for
example, has increased significantly the number of cars that a car factory can
produce.
The Quantity of Enterprise
• The quantity of enterprise will increase if there are more entrepreneurs. A
good education system, including university degree courses in economics and
business studies, may help to develop entrepreneurs in an economy. Lower
taxes on firms' profits (corporate taxes) and a reduction in government
regulations may encourage more people to set up their own businesses.
Sometimes, a disproportionate number of immigrants become
entrepreneurs. These are people who have had the drive to leave their home
country in search of a better life and this drive often leads them to become
entrepreneurs in the new country.
The Quality of Enterprise
• quality of enterprise can be improved if entrepreneurs receive better
education, better training, better healthcare and gain more experience.
More experience can be particularly significant in the case of
entrepreneurs. Very successful entrepreneurs have often set up
businesses in the past, some of which may have failed. The knowledge
and understanding they have gained of, for example, the products
people like to buy and the best sources of raw materials, can help them
make a success of a new business.
Payments for Factors of Production
• Payments are made for the use of factors of production. Firms pay
wages for the services of the workers. For bearing risks and organizing
the other factors of production, entrepreneurs earn profit. Land
receives rent and interest is a payment for capital.