Factors of Production

"Entrepreneur is Associated with Innovation"

Teaching Points
6.1     Introduction
6.2     Classification of Factors of Production
6.3     Land – Meaning and Features
6.4     Labour – Meaning and Features
6.5     Capital – Meaning and Features
6.5.1  Types of Capital
6.6     Entrepreneur – Meaning, Qualities and Functions

Teaching Objective
To enable the students to make familiar with the basic factors of production and their functions.

It is difficult, but not impossible, to conduct strictly honest business…. What is true is the honesty is incompatible with the amazing of a large fortune.

6.1     Introduction
         To produce   any commodity we require production factors like land, labour, capital, entrepreneur etc. In economics we call these factors as factors of production.
Definition :
Prof. Adam Smith: "Production is a creation of physical assets."
Prof. Marshall: "Production is a creation of utilities."
Prof. Mayers: "Any action undertaken for the exchange of commodities and services is production."

6.2     Classification of Factors of Factors of Production
For the production process we require following four factors of production. They are land, labour, capital and entrepreneur. For the efforts in production they get reward in the form of rent, wages, interest and profit, respectively.
Factors of Production
a)    Land
b)    Labour
c)     Capital
d)    Entrepreneur

6.3     Land – Meaning and Features
In ordinary language the word 'land' refers to the surface of the earth. But in Economics the word land is a wider concept: Land is primary, natural and original factor of production. Land is a free gift of nature.
According to Dr. Alfred Marshall, "By land we mean not merely land in the strict sense of the word best the whole of materials and forces which nature gives freely for men's aid in land, water, air, light and heat."
Thus, according to Marshall, land means all free gifts that nature had given to mankind. It includes:
a)      On the surface of earth - All the natural resources like water, river, forest, agricultural land, mountains etc.
         b)      Below the surface of earth – Natural resources like coal, gold, silver, iron etc.
         c)       Above the surface of earth - Natural resources like air, sunlight, heat etc.
Features of Land:
Following are the features of land
1]       Free gift of nature
2]       Passive factor of production
3]       No geographical mobility
4]       Inelastic supply
5]       Permanent and indestructible factor
6]       Heterogeneity
7]       Diminishing marginal returns
8]       Derived demand
9]       Site value
1]      Free gift of nature:
Land is material source which nature has provided as a free gift to mankind. Land is not created with human efforts, thus supply price of land is zero from the society point of view. Thus land has no cost of production.
2]      Passive factor of production:
Land is a passive factor of production. Land becomes productive when the other factors of production such as labour, capital etc., are used with it.
3]      No geographical mobility:
Land cannot move from one place to another, but it has occupational mobility, that it can be put into some other alternative uses. E.g., agricultural land can be used for construction of houses. Therefore it is the least mobile factor of production.
4]      Inelastic supply:
The total land surface is determined by nature and is fixed in supply. Man cannot increase or decrease the total volume of land. Man can try to improve the quality of land. The availability of land at any time is fixed. Thus, supply of land is perfectly inelastic.
5]      Permanent end indestructible factor
Land is a indestructible-factor., It cannot be destroyed completely. Fertility of land may diminish but its existence remains forever.
6]      Heterogeneity:
Land is a heterogeneous factor and not a homogeneous factor. Land differs in quality and there are different grades in land. As a result superior land commands a higher rent as compared to inferior land.
7]      Diminishing marginal returns:
Land is subject to the Law of Diminishing Returns. As more and more units of labour and capital are added to the same piece of land, the total output increases but at diminishing rate.

8]      Derived demand:
The demand for land is indirect. Demand for land depends on the demand of other goods and services. E.g., the demand for agricultural land is derived from the demand for agricultural products.
9)      Site value:
Land is a natural factor, value of land depends upon location. Land situated near urban area fetch higher price than the land located near rural area.

6.4     Labour
Labour is the most active and living factor of production, without which production process is not possible.
According to Marshall, "Any exertion of mind or body undergone partly or wholly with a view to earning some return other than the pleasure derived directly from the work."
In other words, any exertion of human body and mind with a view to earn money is labour. E.g. when students play football, it involves operation, but it is not labour, for it has no economic motive. But a football coach who teaches them the game, does it for his livelihood so his exertion is labour.
Features of Labour :
Following are the features of labour:
1]       Inseparable from the body of the worker.
2]       Human and active factor of production.
3]       Labourer sells his labour and not himself.
4]       Restricted mobility.
5]       Perishable factor.
6]       Efficiency of labour.
7]       Less bargaining power.
8]       Inelastic Supply of labour
1 ]     Inseparable from the body of the worker – Labourer and his work always goes together. Hence, labourer must be present himself where he suppose to render his services.
2]      Human and active factor of production - Labour being a human factor has feelings, likes and dislikes. Therefore, he cannot be treated as a machine. Other factors become productive only after the application of labour. So labour is the most active factor of production.
3]      Labour sells his labour and not himself - As quoted by Alfred Marshall, the worker sells his labour, but he himself remains his own property." The worker does not sell himself. He sells his labour only.
4]      Restricted mobility - According to Adam Smith, "Of all the luggages, the labour is the most difficult to be transported." Labour can move from one country to another country in the same way. Labour can change his business easily, but due to the family attachment, housing problems, climate etc., restricts geographic mobility of labour.
5]      Perishable factor - Labour is perishable in nature. If a worker is absent for a day, the days labour has gone. The amount of labour lost is lost forever. Labour cannot be stored and used for future.
6)      Efficiency of labour - Efficiency of labour differs from worker to worker. These differences are on account of a number of factors such as training, education, surrounding, culture, physical strength etc. Thus, labour is a heterogeneous factor of production, that's why labour is categorized under different classes such as skilled labour, semi-skilled labour and unskilled labour.
7)      Less bargaining power - Individual worker has weak bargaining power. They are helpless to accept the low wages offered to them, rather than remaining unemployed. Howerver, in modern days trade unions fights for the rights of the labour. Labour can form a trade union, and through trade union they can put forward their demands for better working conditions, higher wages etc.
8)      Inelastic Supply of labour - Supply of labour is relatively inelastic during the short period of time this is because working population is between the age group i.e. 15-59. Supply of labour cannot be quickly increased or decreased to meet the changes in the demand for it.

6.5     Meaning and Features of Capital
Capital is the third important factor of production. In ordinary language, we identify capital with money invested in a business. Even though capital in a business is expressed in terms of the amount of money used. To start a business, this amount has to be converted into capital goods like building, machinery, raw material, fuel etc. to get production started.
Definition :
According to Bohm Bawark, an Austrian economist, "Capital is a produced means of production."
Capital refers to the stock of capital assets which yield income.
Features of Capital :
1.       Man-made factor
2.       Mobile factor of production
3.       Passive factor of production
4.       Elastic supply
5.       Derived demand
6.       Capital - a part of wealth
7.       Durability
8.       Productive factor
1.       Man-made factor:
Capital is a man-made factor of production. Man produces the capital in the form of plant, machinery, building, vehicles etc. Hence it is a manmade factor.
2.       Mobile factor of production:
Capital has highest mobility. It has both geographical as well as occupational mobility; capital of every type can be easily transferred from one place to another or from one country to another country.
3.       Passive factor of production:
Capital is a passive factor of production. It becomes productive only with the help of labour and capital. Thus, it cannot produce anything on its own. However it increases the efficiency of other factors of production.
4.       Elastic supply:
The supply of capital goods is elastic. Depending upon requirements the capital can be increased or decreased. If demand increases, supply of capital can be increased. Thus, supply of capital can be increased by increasing saving and investment.
5.       Derived demand:
Human wants are not directly satisfied by the capital goods. But with the help of capital goods production of consumer goods is possible. Thus, it has derived demand.
6.       Capital is part of wealth:
Those things in which we find the qualities like utility, scarcity, transferability and externality termed as wealth. All capital is wealth because capital possesses all the characteristic of wealth. But all wealth is not capital. Because all those things which we termed as wealth cannot be used in production process.
7.       Durability:
Capital assets like machinery are durable in nature, which contributes to production over a period of time.
8.       Productive factor:
Capital is more productive as compared to other factors of production; use of capital not only improves efficiency of land and labour, but also increases the total production. Thus, capital is most important factor in a production process, without capital production process is not possible.

6.5.1  Types of Capital
The capital can be classified mainly into four groups:
         1)      On the basis of ownership:
                  a)       Private capital
                  b)       Public capital
         2)      On the basis of durability:
                  a)       Fixed capital
                  b)       Working capital
         3)      On the basis of mobility:
                  a)       Sunk capital
                  b)       Floating capital
         4)      On the basis of nature
                  a)       Real capital
                  b)       Money capital
         1]      On the basis of Ownership:
         a)      Private or Personal Capital:
It is that capital which is owned by individual or institute that is group of individuals. E.g., a firm owned by individual, machinery etc.
         b)      Public or Social Capital:
When capital is owned collectively by the society or the government, it is public or social capital. E.g., municipal school, municipal hospital, railways etc.
         2)      On the basis of Durability:
         a)      Fixed Capital:
If is that capital which is used in a production process again and again. It is durable in nature. E.g., machinery, factory building etc.
b)      Working or Circulating Capital:
It is that type of capital which is used in a production process only once. It is also known as variable capital. E.g., raw material, power fuel.
         3]      On the basis of Mobility:
         a)      Sunk Capital:
When the capital is used for specific purpose, it is sunk capital. E.g. washing machine, xerox machine, road. rollers, railway lines. It cannot be used for any other purpose.
         b)      Floating Capital:
It is that capital which has several alternative uses. E.g. electricity, coal, petrol, etc.
         4]      On the basis of Nature:
         a]      Peal Capital:
                  It is a physical capital used in the production process. E.g. machinery, raw material, equipments etc. It is used to produce other goods.
         b)      Money Capital:
It is a capital in the form of money. Real capital like raw material, machinery can be purchased with the help of money capital.

6.6     Entrepreneur
Entrepreneur plays an important role in the process of production. Production is the combined effect of land, labour, capital and entrepreneur. It is not possible to carry out the production process, without the service of an efficient entrepreneur. The Entrepreneur himself may or may not have his own land, labour or capital. But to make the production possible he has to combine all factors of production in appropriate manner. He not only combines all factors of production, but organizes and supervises the production by undertaking all risks. In short, "the Entrepreneur is the initiator, organizer, the controller and risk bearer of a business." According to F.H. Knight, "an Entrepreneur is a person who performs dual function of risk taking and control."
According to Schumpeter, "Entrepreneur is associated with innovation."
Thus, the job as an Entrepreneur is a highly specialized job. Other factors get their fixed reward in the form of rent, wages, interest, but an entrepreneur cannot guarantee his own income (profit). The remuneration of an Entrepreneur can be positive, negative or zero.

Qualities of Entrepreneur :
Entrepreneur is regarded as a "captain of a ship". It is the Entrepreneur who co-ordinates all factors of production. To be a successful businessman, an entrepreneur should posses the following qualities.
1.       Efficient
2.       Organizer
3.       Leadership
4.       Decision maker
5.       Self confident
6.       Bold and courageous
7.       Knowledgeable
8.       Innovator
9.       Vision and foresight
1)    Efficient - He should be highly intelligent, able and efficient so as to solve the problems arising in industry.
2)    Organizer - He should be a good organizer. He should have the ability to combine all the factors of production in appropriate manner. Thus, he should be a good co-ordinator.
3 )   Leadership - Entrepreneur should possess the quality of leadership. The key of successful business is brilliant leadership. He should put the right person at right job. The important function of a leader is to give right direction to different factors of production.
4)    Decision Maker - He should be a quick decision maker. He should have capacity to take quick decisions regarding the location of industry, investment, nature of product, sale of the products etc.
5)    Self Confident - Entrepreneur should be self confident and should be able to develop confidence in others, regarding his integrity and honesty, which will help to maintain goodwill and reputation of his firm in the market.
6)    Bold and Courageous - Entrepreneur should be capable to face difficulties, adverse circumstances with confidence.
7)    Knowledgeable - He should have complete knowledge about his business, market conditions, new technology, ups and downs in the market etc.
8)    Innovator - Entrepreneur should be a good innovator. He should introduce new technique of production which minimizes cost of production and explores the market for his product.
9)    Vision and Foresight - He should be a person who has vision, foresight and a drive to move ahead of others. He must be a man with imagination and judgement so that he may be able to estimate the changes likely to take place in the market trends.

Functions of an Entrepreneur
In modern Economy, an Entrepreneur has to perform various functions. They are broadly classified into three categories.
a)      Organizing function
         i)     Factor co-ordination
         ii)    Decision making
         iii)    Planning
         iv)    Supervision
         v)    Factor payment
b)      Risk and uncertainty bearing function
         i)     Insurable risk
         ii)    Non-insurable risk
c)       Innovative function
A]      Organizing function:
         An Entrepreneur has to perform following functions to organize business.  -
i]       Factor co-ordination:
An Entrepreneur has to co-ordinate the other factors of production i.e. land, labour and capital in the most optimum manner. So that he can minimize the cost of production and maximize the total output.
ii]      Decision making:
An Entrepreneur has to undertake several decisions, regarding how to produce, at what cost to produce, where to sell, how much to produce, etc. Thus, Entrepreneur is a decision making factor in a production process.
iii]     Planning :
Planning is an important function of an Entrepreneur. He has to plan before starting production process. During the production process also he has to make some desirable changes and after production of goods he has to plan about sell of his product, thus, planning is a continuous process.
iv)     Supervision:
An Entrepreneur is also a supervisor of his business. He should supervise the entire functioning of the business. He should keep on monitoring the working of factor inputs.
v)      Making factor payments:
Entrepreneur pays fixed contractual rewards to all factors of production, i.e. land, labour and capital. He should distribute the rewards according to their contribution in the production process.
B]      Risk and Uncertainty bearing function:
It is the unique and most important function performed by an Entrepreneur. It is the responsibility of Entrepreneur to undertake the risk and uncertainties in the business. Entrepreneur bears two types of risk.
i)       Insurable Risk:
It is that risk which is insured by the insurance company such as risk due to fire, risk due to flood, risk due to accident etc. The loss due to suc risk can be avoided.
ii)       Non-Insurable Risk or Uncertainties:
         Non-insurable risk or uncertainties mean unexpected risk which cannot be insured by insurance company.
e.g. risk due to change in demand for the product, availability of close substitute for the product, change in government policy, war-like condition etc.
C]      Innovative Function:
According to Schumpeter, the introduction of innovation is the soul of entrepreneurial function. It is the duty of entrepreneur to do innovations. To discover new technology of production, finding of new market, finding of new place of getting raw material, finding of new place to bring out the change in shapes and cover of the product and also to find out new sales promotion."
Thus, entrepreneur performs a variety of functions, therefore he is rightly described as the captain of the industry.

Q.1 A) Fill in the blanks with appropriate alternative given in bracket.
         1)       Land is subject to ................. returns.
                  (increasing / constant / diminishing / negative)
         2)       ................ is regarded as primary factor of production.
                  (Land l Labour I Capital / Entrepreneur)
         3)       Capital is a .......... factor of production.
                  (real / artificial / natural / free)
         4)       Land is a free gift of ...............
                  (nature / human / forign / nation) 5)      ................. is a leader of organization.
                  (A capitalist / A consumer / A seller / An organizer)
         B]      Match the following groups
                  Group "A"                                Group "B"
                  1)    Production                          a)    Profit
                  2)    Land                                  b)    Captain of Industry
                  3)    Labour                               c)     Creating utility
                  4)    Reward of capital                d)    Rent
                  5)    Reward of                          e)    Interest entrepreneur
                                                                  f)     Wages
         C)      State the following statements are true or false.
                  1)       Demand for labour is direct demand.
                  2)       Labour and labourer are inseparable.
                  3)       Labour cannot be stored.
                  4)       Capital is a natural factor of production.
                  5)       Land is a free gift of nature.

Q.2    A)      Define or explain the following concept.
                  1)       Entrepreneur
                  2)       Variable capital      
                  3)       Labour
                  4)       Land
                  5)       Capital
         (B)     Give reasons or explain
                  1)       The entrepreneur is called a leader of the organization.
                  2)       Labour cannot be stored.
                  3)       The supply of land is inelastic.
                  4)       Raw material is considered as a variable capital.

Q.3    A)      Distinguish between the followings
                  1)       Land and capital
                  2)       Fixed capital and variable capital
                  3)       Insurable risk and non-insurable risk
                  4)       Labour and entrepreneur
         B]      Write short notes on:
                  1)       Qualities of an entrepreneur
                  2)       Types of capital

Q.4)   Answer the following questions.
         1)       What are the peculiarities of land?
         2)       What are the features of labour?
         3)       What are the features of capital?

Q.5)   State with reasons whether you agree or disagree with the following statements.
         1)       Profit is a reward for bearing risk only.
         2)       Labour is a perishable factor of production.
         3)       All risks are insurable.
         4)       Supply of land is fixed.

Q.6)   Answer in detail
         1)       Entrepreneur is the 'captain of an industry', explains.
         2)       Explain in detail the functions of an entrepreneur.
Project: -
1)       Meet the following businessman, and note three problems, risk which may arise in business.
         a)       Taxi or auto rickshaw driver
         b)       Farmer
         c)       Owner of a retail grocery shop
         d)       Dairy Farming
2)       Prepare a list of capital goods used by the following institutions by visiting them.
         a)       A farm
         b)       A transport company
         c)       A stall supplying pan, bid etc.
         d)       Are restaurant
         e)       A bicycle shop
         f)       A hair dressing saloon or beauty parlour.


Write the features of the following.








State Whether The Following Statement Are True Or False (Give Reason)


Commercial Banks

Central banking

Business Services

Consumer Protection