on total funds invested exceeds the interest rate on loans, any residual surplus accrues to shareholders, enhancing their return. On the other hand, when the average return on total funds invested is less than interest rates, then interest still has to be paid, and this has the effect of reducing the residual return to shareholders. Thus, returns to shareholders vary more violently when highly geared.
The extent to which a company can employ fixed-interest capital as a source of long-term funds depends to a large extent upon the stability of its profits over time. For example, large retailing companies whose profits tend to vary little from year to year tend to be more highly geared than, say, mining companies whose profit record is more volatile.
capital goods the long-lasting durable goods, such as machine tools and furnaces, that are used as FACTOR INPUTS in the production of other products, as opposed to being sold directly to consumers. See CAPITAL, CONSUMER GOODS, PRODUCER GOODS.
capital inflow a movement of funds into the domestic economy from abroad, representing either the purchase of domestic FINANCIAL SECURITIES and physical ASSETS by foreigners, or the borrowing (see BORROWER) of foreign funds by domestic residents.
Capital inflows involve the receipt of money by one country, the host, from one or more foreign countries, the source countries. There are many reasons for the transfer of funds between nations:
(a) FOREIGN DIRECT INVESTMENT by MULTINATIONAL COMPANIES in physical assets such as the establishment of local manufacturing plant;
(b) the purchase of financial securities in the host country which are considered to be attractive PORTFOLIO investments;
(c) host-government borrowing from other governments or international banks to alleviate short-term BALANCE OF PAYMENTS deficits;
(d) SPECULATION about the future EXCHANGE RATE of the host country currency and interest rates, expectation of an appreciation of the currency leading to a capital inflow as speculators hope to make a capital gain after the APPRECIATION of the currency.
By contrast, a CAPITAL OUTFLOW is the payment of money from one country to another for the sort of reasons already outlined. See also FOREIGN INVESTMENT, HOT MONEY.
capital-intensive firm/industry a firm or industry that produces its output of goods or services using proportionately large inputs of CAPITAL equipment and relatively small amounts of LABOUR. The proportions of capital and labour that a firm uses in production depend mainly on the relative prices of labour and capital inputs and their relative productivities. This in turn depends upon the degree of standardization of the product. Where standardized products are sold in large quantities, it is possible to employ large-scale capital-intensive production methods that facilitate ECONOMICS OF SCALE. Aluminium smelting, oil refining and steelworks are examples of capital-intensive industries. See MASS PRODUCTION, CAPITAL-LABOUR RATIO.
capitalism see PRIVATE-ENTERPRISE ECONOMY.
capitalization issue or scrip issue the issue by a JOINT-STOCK COMPANY of additional SHARES to existing SHAREHOLDERS without any further payment being required. Capitalization issues are usually made where a company has ploughed back profits over several years, so accumulating substantial RESERVES, or has revalued its fixed assets and accumulated capital reserves. If the company wishes to capitalize the reserves, it can do so by creating extra shares to match the reserves and issue them as BONUS SHARES to existing shareholders in proportion to their existing shareholdings. See also RETAINED PROFIT.
capital-labour ratio the proportion of CAPITAL to LABOUR inputs in an economy. If capital inputs in the economy increase over time at the same rate as the labour input, then the capital-labour ratio remains unchanged (see CAPITAL WIDENING). If capital inputs increase at a faster rate than the labour input, then CAPITAL DEEPENING takes place. The capital-labour ratio is one element in the process of ECONOMIC GROWTH. See CAPITAL-INTENSIVE FIRM/INDUSTRY, LABOUR-INTENSIVE FIRM/INDUSTRY, AUTOMATION.
capital loss the deficit realized when an ASSET (house, SHARE, etc.) is sold at a lower price than was originally paid for it. Compare CAPITAL GAIN.
capital market the market for long-term company LOAN CAPITAL and SHARE CAPITAL and government BONDS. The capital market together with the MONEY MARKET (which provides short-term funds) are the main sources of external finance to industry and government. The financial institutions involved in the capital market include the CENTRAL BANK, COMMERCIAL BANKS, the saving-investing institutions (INSURANCE COMPANIES, PENSION FUNDS, UNIT TRUSTS and INVESTMENT TRUST COMPANIES), ISSUING HOUSES and MERCHANT BANKS.
New share capital is most frequently raised through issuing houses or merchant banks, which arrange for the sale of shares on behalf of client companies. Shares can be issued in a variety of ways, including: directly to the general public by way of an ‘offer for sale’ (or an ‘introduction’) at a prearranged fixed price; an ‘offer for sale by TENDER’, where the issue price is determined by averaging out the bid prices offered by prospective purchasers of the share subject to a minimum price bid; a RIGHTS ISSUE of shares to existing shareholders at a fixed price; a placing of the shares at an arranged price with selected investors, often institutional investors. See STOCK EXCHANGE.
capital movements the flows of FOREIGN CURRENCY between countries representing both short-term and long-term INVESTMENT in physical ASSETS and FINANCIAL SECURITIES and BORROWINGS. See CAPITAL INFLOW, CAPITAL OUTFLOW, BALANCE OF PAYMENTS, FOREIGN INVESTMENTS.
capital outflow a movement of domestic funds abroad, representing either the purchase of foreign FINANCIAL SECURITIES and physical ASSETS by domestic residents or the BORROWING of domestic funds by foreigners. See CAPITAL INFLOW, BALANCE OF PAYMENTS, FOREIGN INVESTMENT, HOT MONEY.
capital-output ratio a measure of how much additional CAPITAL is required to produce each extra unit of OUTPUT, or, put the other way round, the amount of extra output produced by each unit of added capital. The capital-output ratio indicates how ‘efficient’ new INVESTMENT is in contributing to ECONOMIC GROWTH. Assuming, for example, a 4:1 capital-output ratio, each four units of extra investment enables national output to grow by one unit. If the capital-output ratio is 2:1, however, then each two units of extra investment expands national income by one unit. See CAPITAL ACCUMULATION, PRODUCTIVITY. See also SOLOW ECONOMIC-GROWTH MODEL.
capital stock the net accumulation of a physical stock of CAPITAL GOODS (buildings, plant, machinery, etc.) by a firm, industry or economy at any one point in time (see POTENTIAL GROSS NATIONAL PRODUCT).
The measurements most frequently used for the value of a country’s capital stock are from the NATIONAL INCOME and expenditure statistics. These statistics take private and public expenditure on capital goods and deduct CAPITAL CONSUMPTION (see DEPRECIATION 2) to arrive at net accumulation (which may be positive or negative). The more relevant value of capital stock, from the economist’s point of view, is the present value of the stream of income such stock can generate. More broadly, the size of a country’s capital stock has an important influence on its rate of ECONOMIC GROWTH. See CAPITAL ACCUMULATION, CAPITAL WIDENING, CAPITAL DEEPENING, DEPRECIATION METHODS, PRODUCTIVITY, CAPITAL-OUTPUT RATIO.
capital transfer tax see WEALTH TAX.
capital widening an increase in the CAPITAL input in the economy (see ECONOMIC GROWTH) at the same rate as the increase in the LABOUR input so that the proportion in which capital and labour are combined to produce national output remains unchanged. See CAPITAL DEEPENING, CAPITAL-LABOUR RATIO, PRODUCTIVITY.
cardinal utility the (subjective) UTILITY
