Capital Formation and Process of Capital Formation in Economic Development

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Capital Formation

Capital formation means increase in stock of capital.

It refers the arrangement of capital in productive business enterprises.

It is necessary condition of economic development of any form of economic system.

In another words, capital formation means increase in the stock of real capital in the country.

Thus, capital formation is the process of adding to our stock of machinery, tools, buildings and so on overtime. The following diagram shows the chain of capital formation.

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Process of Capital Formation

The process of capital formation has following three distinct stages.

(1) Creation of saving

The saving capacity of an individual, household and society is determined by power to save, will to save and government saving.

(2) Mobilization of saving

The second step of capital formation is mobilization of saving through organized financial institutions such as commercial bank, development bank, co-operatives, insurance companies etc.

These organisations mobilize the capital in the field of trade, commerce, industry and agriculture.

A well-developed money market and capital market are most essential for maximum mobilization of capital.  

(3) Investment of saving

An economy requires large number of business organisations in the field of industry, transportation, communication, agriculture, health, banking, education tourism, etc to create the environment of capital investment.

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