Capital formation in agriculture industry

Capital and labour are the two important factors of production. To some extent, they are substitutable but to a greater extent they are complementary to each other. Both fixed capital and working capital are required for agriculture to perform its various operations in a timely and cost-effective manner. This is also needed for augmenting agricultural production and productivity by way of raising the cropping intensity, changing the cropping pattern and reducing the pre and post-harvest losses. In brief, therefore, capital formation in agriculture helps to bring technical progress by shifting the production frontier upward. It does this by providing several benefits like:

(i) increase in yield

(ii) timely completion of farm operations

(iii) maximum possible land utilization

(iv) shift in the cropping pattern

(v) diversification of agriculture.

The capital formation thus facilitates to expand agricultural market as these benefits result in more marketable surplus. The market expansion, in turn, not only raises the farm income but also provides easy access to agricultural products to the consumers.

In the process, it helps to ensure food security for the growing population and raw material security to the agro-based industries. Capital formation also helps in improving the quality of agricultural produce through better storage and transportation facilities.

These, in turn, increases the prospects of agro-exports. India can play a major role in global market for farm products as it has a fairly large land area and large labour force under agriculture. The role of GFCF in contributing to the growth of this sector.

Capital used in agriculture can broadly be classified into two categories:

(i) fixed capital and

(ii) working capital.

Fixed capital is that capital which lasts for more than one year. It includes the investment in farm machines such as tractor, pump-sets, and other assets like tube-wells, land development, farm building, etc. Working capital is that capital which lasts for less than one year such as expenses on seeds, fertilizers, wages to the workers, etc. Thus, capital formation in agriculture comprise of additions to the fixed capital less disposals and change in inventories. Inventories include materials and supplies meant for intermediate inputs in production and finished goods for sale (e.g. packaging). Fixed capital formation consists of net addition to fixed assets (i.e. total addition minus depreciation) in the current year. For the stock of capital to be maintained, additional investment equal to the amount of capital consumed (i.e. depreciation) should be made in that year. Fixed Capital Formation can further be classified into Gross Fixed Capital Formation (GFCF) and Net Fixed Capital Formation (NFCF). The GFCF consists of sum of all additions to the existing stock of fixed capital in the current year while NFCF refers to GFCF net of depreciation in the current year. Depreciation [i.e. consumption of fixed capital (CFC)] is calculated only for all fixed assets (tangible and intangible).

In particular, CFC is not calculated for:

(i) valuables that are acquired (as their value, in real terms, is not expected to decline over time)

(ii) livestock

(iii) non-produced assets, such as, land, mineral or other deposits

(iv) work in progress

(v) value of fixed assets destroyed by acts of war or major natural disasters.

External sources of capital formation include:

(i) foreign direct investment (FDI)

(ii) external government borrowings (EGBs)

(iii) External Commercial Borrowings (ECBs)

(iv) development assistance from international institutions like World Bank, NRI deposits, etc.

FDI inflows can be an important source of capital formation in developing countries. These inflows not only help to reduce the capital scarcity but also bring technology, management practices and trained human resource. They can also have a positive impact on the performance of domestic companies. This is particularly true when the domestic companies enter into collaboration with the foreign companies.

EGBs refer to financial resources raised by the central and state governments from foreign institutions like the World Bank for the development of infrastructure like water and sanitation projects, road, health and power projects, etc. ECBs are private sector borrowings from abroad which could be used for investment purposes. All these help to increase the capital-base of the economy.

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