Updated July 18, 2023
Definition of Capital Accumulation
The term capital appreciation is coined for growth in the value of existing wealth either through investments or from profits over a period of time as against the original amount of investment.
The concept aims to enhance the value of the amount of initial investment by way of earning returns on the investment which could be in the form of capital appreciation, rentals, and interest.
Capital accumulation focus on increasing the existing wealth by way of investing in the amounts of profits as well as savings. Investment can be made in tangible assets used for the production of goods or services in a business, other tangible assets such as real estate or financial assets such as stocks if they are capable of enhancing in value. Another way of making investments for capital accumulation is to invest amounts in such research and development activities which could help businesses in their production processes.
The purpose of capital accumulation is to increase wealth but that doesn’t mean a business has to necessarily spend on investments. It can carry out other activities as well which could increase its profits such as increasing the level of efficiency for an improved level of output without incurring any additional expense.
How Does Capital Accumulation Occur?
As we have discussed above, capital accumulation can occur in a number of ways:
- Investment in tangible assets that are used in the production of goods or services such as machinery and equipment.
- Investment in other tangible assets such as real estate.
- Investment in financial assets such as stocks, bonds, mutual funds, etc.
- Investment in intangibles such as research and development.
- Other activities that could enhance the wealth of a business such as increasing the output level by improving efficiency without incurring additional expenses.
Equation for Capital Accumulation
Capital accumulation equals the value arrived at by reducing the amount of initial investment from the value of the investments as on the date of valuation. Mathematically, it can be presented as below:
To calculate the value of capital accumulation, the current value of assets in which investments have been made needs to be identified along with the amount of initial investment. The difference between the two amounts gives us the value of capital appreciation.
Example of Capital Accumulation
Let us understand the concept of capital accumulation with the help of an example.
The business has given the following details of the amounts that is invested in various assets and their current values. Let us calculate the value of capital accumulation.
Initial amount invested = $20,30,000
Value on the date of valuation = $22,17,000
Capital Accumulation is calculated using the formula given below:
Capital Accumulation = Value on the Date of Valuation – Initial Amount Invested
- Capital Accumulation = $22,17,000 – $20,30,000
- Capital Accumulation = $1,87,000
Factors Affecting Capital Accumulation
Factors affecting capital accumulation are given below:
- Type of Assets: Capital accumulation involves increasing the existing wealth by way of profits and investments and the increase in wealth is greatly affected by the choice of assets in which the investment is made. This is because different kinds of assets fetch different returns.
- Reinvestment Policy: It refers to the policy of a corporate regarding how much profits to reinvest in the assets for further creation of wealth.
- Market Conditions: Capital accumulation is arrived at by determining the current market values of the assets against the initial amount of investments. Thus, market conditions prevailing for the assets are important in determining the impact on capital accumulation.
Effects of Capital Accumulation
There are two arguments to the effects of capital accumulation which are discussed as below:
- The first school of thought suggests that capital accumulation gives rise to inequality in society. The theory is a part of Marxist Theory. The logic provided by such a theory is that capital accumulation represents the profits earned by businesses that are usually reinvested by such businesses which lead to wealth accumulation by the wealthy. The result is that the wealthy become further wealthy and continue to dominate the less wealthy or poorer sections of society.
- The other theory states that capital accumulation leads to an overall increase in the wealth of the nation which further leads to redistribution of the wealth in the nation.
Importance of Capital Accumulation
The importance of measuring capital accumulation is due to a number of factors as enumerated below:
- The concept advocates that businesses make investments to grow their wealth which is helpful for the businesses as every business strives on profits for their survival.
- The concept is also important for the investors and lenders of the businesses who invest their amounts with the corporates in the hope of getting good returns. Measuring capital accumulation gives them an idea as to where the business is heading.
- It also indicates how the company is utilizing its funds and reflects the choice of investments in which the company is investing in.
Capital accumulation is a very useful concept for the business, its investors as well as lenders since it helps them determine the growth of the business. However, the Marxist Theory argues against the concept of capital accumulation on account of inequality.
This is a guide to Capital Accumulation. Here we also discuss the introduction and how does capital accumulation occur? along with importance. You may also have a look at the following articles to learn more –