Factors of Production.
The 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 entrepreneurship.
The first factor of production is land, but this includes any natural resource
used to produce goods and services. This includes not just land, but anything
that comes from the land. Some common land or natural resources are water,
oil, copper, natural gas, coal, and forests. Land resources are the raw
materials in the production process. These resources can be renewable, such
as forests, or nonrenewable such as oil or natural gas. The income that
resource owners earn in return for land resources is called rent.
The second factor of production is labor. Labor is the effort that people
contribute to the production of goods and services. Labor resources include
the work done by the waiter who brings your food at a local restaurant as well
as the engineer who designed the bus that transports you to school. It
includes an artist’s creation of a painting as well as the work of the pilot flying
the airplane overhead. If you have ever been paid for a job, you have
contributed labor resources to the production of goods or services. The
income earned by labor resources is called wages and is the largest source of
income for most people.
The third factor of production is capital. Think of capital as the machinery,
tools and buildings humans use to produce goods and services. Some
common examples of capital include hammers, forklifts, conveyer belts,
computers, and delivery vans. Capital differs based on the worker and the
type of work being done. For example, a doctor may use a stethoscope and an
examination room to provide medical services. Your teacher may use
textbooks, desks, and a whiteboard to produce education services. The
income earned by owners of capital resources is interest.
The fourth factor of production is entrepreneurship. An entrepreneur is a
person who combines the other factors of production – land, labor, and
capital – to earn a profit. The most successful entrepreneurs are innovators
who find new ways produce goods and services or who develop new goods
and services to bring to market. Without the entrepreneur combining land,
labor, and capital in new ways, many of the innovations we see around us
would not exist. Think of the entrepreneurship of Henry Ford or Bill Gates.
Entrepreneurs are a vital engine of economic growth helping to build some of
the largest firms in the world as well as some of the small businesses in your
neighborhood. Entrepreneurs thrive in economies where they have the
freedom to start businesses and buy resources freely. The payment to
entrepreneurship is profit.
Money is NOT included as a factor of production. You might ask, isn’t money
a type of capital? Money is not capital as economists define capital because it
is not a productive resource. While money can be used to buy capital, it is the
capital good (things such as machinery and tools) that is used to produce
goods and services. When was the last time you saw a carpenter pounding a
nail with a five dollar bill or a warehouse foreman lifting a pallet with a 20
dollar bill? Money merely facilitates trade, but it is not in itself a productive
resource.
Remember, goods and services are scarce because the factors of production
used to produce them are scarce. In case you have forgotten, scarcity is
described as limited quantities of resources to meet unlimited wants.
Consider a pair of denim blue jeans. The denim is made of cotton, grown on
the land. The land and water used to grow the cotton is limited and could
have been used to grow a variety of different crops. The workers who cut and
sewed the denim in the factory are limited labor resources who could have
been producing other goods or services in the economy. The machines and
the factory used to produce the jeans are limited capital resources that could
have been used to produce other goods. This scarcity of resources means that
producing some goods and services leaves other goods and services
unproduced.
Name That Resource.
Below are examples of the four possible resources that form the factors of
production: land, labor, capital, or entrepreneurship.
Coal… land
Forklift… capital
Factory… capital
Oil… land
Michael Dell… entrepreneur
Always remember that the four factors of production – land, labor, capital,
and entrepreneurship – are scarce resources that form the building blocks of
the economy.
Source: A podcast and written copy of this lesson can be found at:
http://www.stlouisfed.org/education_resources/economic-lowdown-podcast-series/factors-of-
production/
Images: https://www.google.com/imghp?hl=en&tab=ii (Factors of Production)
