Lesson 1 of 7
Not a pile of money
Capital here is a stock of produced intermediate goods, not a fund of value. The definition looks pedantic and it decides what the theory can say.
By Javier Sanz
Founder of ValueScreener. Built Ninety Nine, a securities services provider, and sold it to a tier-one global bank; ran operations and internationalization at Alpaca, the brokerage API.
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In one minute
- Capital here is a stock of produced intermediate goods: things made in order to make other things, which are not yet the thing anybody wants.
- That excludes money, which is a claim rather than a means of production, and it excludes land, which was not produced.
- The alternative definition, capital as a permanent fund of value, is not a wording preference. It produces a different theory, and Bohm-Bawerk spends a whole book of the Positive Theory arguing against it.
Ask five people what capital is and you will get money, machines, wealth, funding and a line on a balance sheet. Bohm-Bawerk opens The Positive Theory of Capital by insisting that the answer decides what the theory can say next, and he is right about that.
What counts, on this definition
Capital
- Machines, tools and buildings used in production.
- Half-finished goods and materials in process.
- Stocks of components waiting to be used.
- Anything made in order to make something else.
Not capital, on this definition
- Money, which is a claim and not a means of production.
- Land, which was not produced.
- Labour, which is not a produced thing.
- Consumer goods, which are the point of the exercise.
Produced, and used to produce. Both conditions, or it is not capital here.
The definition, and why the exclusions matter
Bohm-Bawerk works through the rival definitions in Book I of the Positive Theory and settles on capital as an aggregate of products that exist in order to serve acquisition rather than consumption. In Menger's language from the previous course, capital is the stock of goods of higher order that somebody made.
Excluding money is the exclusion that surprises people. A firm's cash is a claim on other people's goods. It can be turned into capital by buying a machine, and until it is, no production has been arranged and no combination exists. The theory is about the goods, and the cash is a way of getting them.
Excluding land matters because land was not produced. Bohm-Bawerk argues in Book I that it differs from produced instruments in origin, in mobility and in the pattern of income it yields, and that lumping the two together hides the question he wants to ask.
The rival definition, and what it changes
The other definition treats capital as a fund of value: a homogeneous, permanent quantity that can be measured in one number, moved between uses and maintained automatically out of its own earnings. It is a natural way to think if you are reading a balance sheet, where capital is exactly a number.
The two definitions do not disagree about facts. They make different questions askable. A fund has a size and a return. A stock of specific produced goods has a composition, an arrangement in time, and combinations that either fit together or do not. Everything this track does later depends on the second being available.
Bohm-Bawerk takes the rival conceptions apart one at a time in Book I, chapter V, and the dispute did not end with him. It ran again in the 1930s and again in the 1960s, which is lesson seven.
Check yourself
On this definition, is a company's cash balance capital?
- Yes, it is capital in its most flexible form
- No, it is a claim on goods rather than a produced means of production
- Only if it is earmarked for investment
Show the answer
Answer: B.
Capital here is the stock of produced intermediate goods. Cash can buy them, and until it does, no production has been arranged.Why is land excluded?
- It does not earn a return
- It was not produced, and Bohm-Bawerk argues it differs in origin, mobility and income pattern
- Because it appears at historical cost
Show the answer
Answer: B.
Book I of the Positive Theory separates produced instruments of acquisition from land on exactly those grounds, so that the question about produced capital can be asked cleanly.What does the fund definition of capital make harder to ask?
- What the rate of return is
- What the composition and time arrangement of the stock is
- Whether capital can be measured in money
Show the answer
Answer: B.
A single homogeneous number has a size and a return but no composition. The later theory in this track is entirely about composition and timing.Sources
- Bohm-Bawerk, The Positive Theory of Capital, 1889, English translation by Smart, Book I, on the nature and conception of capital, and chapter V of that book on the competing conceptions and why he rejects including land and labour.
- Bohm-Bawerk, Capital and Interest, German original 1884, English translation by Smart, 1890, for the survey of earlier treatments the definition is built against.
- Menger, Principles of Economics, 1871, English translation 1950, chapter I, section 2, for the chain of orders that produced capital goods occupy.
What this leaves out
- This is a heterodox tradition. The mainstream account of the same phenomenon differs, and nothing here is a forecast or a view on any security.
- The $60m company is invented and the composition is illustrative. No filing is described.
- The fund definition is not a straw man and its defenders were serious economists. This lesson states why the tradition rejects it; lesson seven states the case for it.