Capital formation
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/* Example of capital estimates */
'''Capital formation''' is a term used in [[national accounts]] statistics and [[macroeconomics]]. It basically refers to the net additions to the (physical) capital [[stock and flow|stock]] in an accounting period, or, to the value of the increase of the capital stock; though it may occasionally also refer to the total stock of capital formed. Thus, in [[UNSNA]], capital formation equals [[fixed capital]] investment, the increase in the value of [[inventories]] held, plus (net) lending to foreign countries, during an accounting period. Capital is said to be "formed" when savings are used for investment purposes, often investment in production.
In the USA, statistical estimates for capital formation were pioneered by [[Simon Kuznets]] in the 1930s and 1940s.
==Wrong definition==
According to one popular macro-economic definition, capital formation refers to "the transfer of savings from households and governments to the business sector, resulting in increased output and economic expansion".{{Fact|date=October 2007}} This definition is wrong on two counts.
Firstly, many larger corporations engage in corporate ''self-financing'', i.e. financing from their own reserves, or through loans from (or share issues bought by) ''other'' corporations. In other words, this definition ignores that the largest source of investment capital consists of ''financial institutions'', not individuals or households or governments. Admittedly, financial institutions are, in the last instance, mostly owned by individuals, but those individuals have little control over this transfer of funds, nor do they accomplish the transfer themselves. Few individuals can say they "own" a corporation, anymore than individuals "own" the public sector.
([[James M. Poterba|Poterba]] 1987) found that changes in corporate saving are only partly offset (between 25% and 50%) by changes in household saving in the United States).
Secondly, the transfer of funds to corporations may not result in increased output or economic expansion at all; given excess capacity, a low rate of return and/or lacklustre demand, corporations may not ''invest'' those funds to expand ''output'', and engage in asset speculation instead, to obtain property income that boosts shareholder returns.
To illustrate, New Zealand's Finance Minister [[Michael Cullen]] stated (''NZ Herald'', 24 February 2005) that "My sense is that there are definite gains to be made, both economic and social, in increasing the ''savings level'' of New Zealanders and in encouraging diversification in assets away from the residential property market."
This idea is based on a wrong understanding of capital formation, ignoring the real issue - which is that the flow of mortgage repayments by households to financial institutions is not being used to expand output and employment on a scale that could repay escalating private sector debts. In reality, more and more local capital value drains to foreign share-holders and creditors. The concept of "household saving" must also be looked at critically, since a lot of this "saving" in reality consists precisely of investing in housing, which, given low interest rates and rising real estate prices, yields a better return than if you kept your money in the bank (or, in some cases, if you invested in shares). In other words, a [[mortgage]] from a bank can effectively function as a "savings scheme" although officially it is not regarded as "savings".
TYPES OF CAPITAL FORMATION
Saving drives
Setting up financial institutions
Fiscal measures
Public borrowings
Development of capital market
Privitization of financial institutions
Developnt of secondary financial markets
==Gross and net capital formation==
Capital formation can be valued ''gross'' (without deductions for [[Consumption of fixed capital|depreciation]]) or ''net'' (adjusted for depreciation write-offs).
==Measurement issues==
Capital formation is notoriously difficult to measure statistically, mainly because of the valuation problems involved in establishing the value of capital assets. Capital assets can for instance be valued at historic (acquisition) cost, current replacement cost, current sale value, average market value, or scrap value. A business owner may in fact not even know what his business is "worth" as a going concern, in terms of its current market value. The "book value" of a capital stock may differ greatly from its "market value", and another figure may apply for [[taxation]] purposes. The value of capital assets may also be overstated or understated using various legal constructions.
During an accounting period, additions may be made to capital assets (including those which are of a type that disproportionately increase the value of the capital stock) and capital assets are also disposed of; at the same time, physical assets also incur [[depreciation]] or [[Consumption of fixed capital]]. Also, price [[inflation]] may affect the value of the capital stock.
In [[national accounts]], there is an additional problem, since the sales/purchases of one enterprise can be the [[investment]] of another enterprise. Therefore, to obtain a measure of the total net capital formation, a system of grossing and netting of capital flows is required. Without this, [[double counting (accounting)|double counting]] would occur. Capital expenditure must be distinguished from [[Intermediate consumption|intermediate]] expenditure and other operating expenditure, but the boundaries are sometimes difficult to draw.
==Perpetual Inventory Method==
A method often used in [[econometrics]] to estimate the value of the physical capital stock is the so-called ''Perpetual Inventory Method'' (PIM). Starting off from a benchmark stock value for capital held, and expressing all values in constant dollars using a [[price index]], additions to the stock are added, and disposals as well as depreciation are subtracted year by year (or quarter by quarter). Thus, an historical data series is obtained for the growth of the capital stock over a period of time. In so doing, assumptions are made about the real rate of price inflation, realistic depreciation rates, average service lives of physical capital assets, and so on.
==Example of capital estimates==
In the 2005 ''Analytical Perspectives'' document, an annex to the US Budget (Table 12-4: National Wealth, p. 201), estimates are provided for the value of total tangible capital assets of the USA, which doubled since 1980 (stated in ''[[1000000000000 (number)|trillions]]'' of dollars, at September 30, 2003):
''Publicly owned physical assets:''
Structures and equipment . . . . . . $5.6
Federally owned or financed . . . $2.2
Federally owned . . . . . . . . . . .$1.0
Grants to state and local govt . . . $1.0
Funded by state and local govt . . . $3.3
Other federal assets . . . . . . . . $1.4
Subtotal (1). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $6.9 trillion
''Privately owned physical assets:''
Reproducible assets . . . . . . . . $28.7
Residential structures. . . . . . . $12.4
Nonresidential plant & equipment . $11.8
Inventories . . . . . . . . . . . . $1.5
Consumer durables . . . . . . . . . $3.1
Land . . . . . . . . . . . . . . . $10.2
Subtotal (2). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $38.9 trillion
''Education capital:''
federally financed . . . . . . . . . $1.4
financed from other sources . . . . $44.0
Subtotal (3) . . . . . . . . . . . . . . . . . . .. . . . . . . . . . . . . $45.4 trillion
''Research and development capital:''
federally financed R&D . . . . . . . $1.1
R&D financed from other sources . . $1.7
Subtotal (4). . . . . . . . . . . . . . . . . . . . . . . . . . .. . . . .$2.9 trillion
TOTAL ASSETS . . . . . . . . . . . . . . . . . . . . . . . . . . . . $94.1 trillion
Net claims of foreigners on US . . . . . . . . . . . . . . . . . $4.2 trillion
Net wealth . . . . . . . . . . . . . . . . . . . . . . . . . . . . .. .$89.9 trillion
(Note: these data obviously do not include financial assets, only "tangible" assets in US territory. The total value of ''marketable'' financial assets in the USA was estimated in 2007 at about US$46 trillion [https://www.imf.org/external/np/speeches/2007/073107a.htm]. This total obviously does not include assets, deposits and reserves which are not traded).
==See also==
* [[Capital (economics)|Capital]]
* [[Fixed capital]]
* [[Human capital]]
* [[Social capital]]
* [[Constant capital]]
* [[Capital accumulation]]
* [[Consumption of fixed capital]]
* [[Investment specific technological progress| Investment-specific technological progress]]
* [[Debt (finance)]]
* [[Equity (finance)]]
* [[Factoring (finance)]]
* [[Initial public offering]]
* [[Private company]]
* [[Public company]]
* [[Reverse merger| Reverse takeover (RTO), also known as a back door listing, or a reverse merger]]
* [[Special purpose acquisition company| Special Purpose Acquisition Companies (SPACs)]]
* [[Gross fixed capital formation]]
* [[Double counting (accounting)|Double counting]]
==References==
*Simon Kuznets, "Proportion of capital formation to national product". ''American Economic Review'', 1952.
*Simon Kuznets et al., ''National income and capital formation, 1919-1935''. National Bureau of Economic Research, 1937.
*Simon Kuznets, ''Capital in the American Economy'' Princeton: Princeton University Press, 1961.
*Simon Kuznets, ''Commodity flow and capital formation''. New York: National Bureau of Economic Research, 1938.
*Simon Kuznets, ''Gross capital formation, 1919-1933''. New York: National Bureau of Economic Research, 1934.
*James Poterba, "Tax Policy and Corporate Saving", in ''Brookings Papers on Economic Activity'', 2, 1987, pp. 455-503.
*Richard Ruggles and Nancy D. Ruggles, ''National Income Accounts and Income Analysis''. New York: McGraw-Hill, 1956.
*M. Yanovsky, ''Anatomy of Social Accounting Systems''.
London; Chapman & Hall, 1965.
*"Analytical Perspectives"
[http://www.whitehouse.gov/omb/budget/fy2005/pdf/spec.pdf]
*''Review of Income and Wealth''[http://www.roiw.org/]
[[Category:Capital|Capital formation]]
[[Category:National accounts]]