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Some definitions of capital deepening can be a little hard to understand, not because the concept is difficult or complex but because the formal language of economics has a special vocabulary. When you're beginning your study of economics, at times it may seem less like a language than a code.
Fortunately, the concept isn't that complicated when it's broken down into everyday speech. Once you understand it in that way, translating into the formal language of economics doesn't seem that hard.
The Essential Idea
You can look at the creation of value in capitalism as having an input and an output. The input is:
- Capital. This, as economists have considered it since Adam Smith first discussed the creation of value in capitalism in The Wealth of Nations, consists not only of money but also the variety of things that have to do with production, such as physical plants, machinery, and materials. (Land, by the way, was treated by Smith as a separate input -- different from other capital because unlike capital generally, which can grow indefinitely, there is only a finite amount of land).
- Labor. In economics, labor consists of work undertaken for a wage or for some other form of monetary reward.
If labor and capital are the inputs, the output is the added value that results. What happens in between the input of labor and capital and the output of added value is the production process. That's what creates the added value:
Input --------------------(production process)-----------------Output (labor and capital) (value created)
The Production Process as a Black Box
For a moment consider the production process as a black box. In Black Box #1 are 80 man-hours of labor and X amount of capital. The production process creates output with a value of 3X.
But what if you wanted to increase the output value? You could add more man-hours, which of course has its own cost. Another way you could increase the output value would be to increase the amount of capital at the input. In a cabinet shop, for example, you could still have two workers working for a week for a total of 80 man hours, but instead of having them produce three kitchens worth of cabinets (3x) on traditional cabinet-making equipment, you buy a CNC machine. Now your workers basically only have to load the materials into the machine, which does much of the cabinet building under computer control. Your output increases to 30 X -- at the end of the week you have 30 kitchens worth of cabinets.
Since with your CNC machine you can do this every week, your production rate has permanently increased. And that's capital deepening. By deepening (which in this context is economist-speak for Increasing) the amount of capital per worker you have increased the output from 3X per week to 30X per week, a capital deepening rate increase of 1,000 percent!
Most economists quantify capital deepening over a year. In this instance, since it's the same increase every week, the growth rate over a year is still 1,000 percent. This growth rate is one commonly used way of assessing the rate of capital deepening.
Is Capital Deepening A Good Thing or a Bad Thing?
Historically, capital deepening has been viewed as beneficial for both capital and labor. The infusion of capital into the production process produces an output value that far exceeds the increased capital at the input. This is obviously good for the capitalist/entrepreneur, but, the traditional view has been that it is good for labor as well. From the increased profits, the business owner pays the worker increased wages. This creates a virtuous circle of benefits because now the worker has more available money to purchase goods, which in turn increase business owners' sales.
French economist Thomas Piketty, in his influential and controversial reexamination of capitalism, Capitalism in the Twenty-First Century," criticizes this view. The details of his argument, which extends over most of a dense 700 pages, is beyond the scope of this article but has to do with the economic effect of capital deepening. He argues that in industrialized and post-industrial economies, the infusion of capital produces wealth at a growth rate that exceeds the growth rate of the broader economy. Labor's share of the wealth decreases. In short, wealth becomes increasingly concentrated and increasing inequality results.
Terms Related to Capital Deepening
- Capital consumption
- Capital intensity
- Capital ratio
- Capital structure
- Capital augmenting
- Human capital
- Social capital