Definition

The transfer of savings from

households and governments to

the business sector, resulting in

increased output and economic

expansion.

Q=F(K,L)

IncreasingMarginalReturns

DiminishingMarginalReturns

NegativeMarginalReturns

MP

APL

Q

Capital Formation

Domestic Capital

Foreign Capital

Human Capital

Money invested in training and

development of the labor to

effectively utilize the physical

capital invested in the business,

resulting in decrease in capital to

output ratio.

Gross Fixed Capital Formation

Investment done in Physical Capital in

a country

○ Agricultural

Simple & Old fashioned implements & Tools

Kucha Structure

○ Unorganized sector

Gross Fixed Capital Formation

YEAR GFCF Change in stock

1950-51 8.9 1.6

1960-61 12.7 1.9

1970-71 14.00 1.8

1980-81 18.5 0.2

1990-91 22.9 1.1

1999-00 23.3 2.0

2000-01 22.7 0.9

2001-02 23.1 0.6

2002-03 24.1 0.6

2003-04 24.7 0.7

Source: Economic Survey 2005-06

Gross Domestic Capital Formation Large public investment Largely domestically financed. Evaluation of investment performance

A rising rateStrengthening of economySlow rise

Unnecessary Inventories Inefficient use of capital Unplanned investment Incapacity for investment

Types of Domestic Saving

SAVINGS

HOUSEHOLD PRIVATE SECTOR PUBLIC SECTOR

FINANCIALSAVINGS

PHYSICALASSETS

INVESTMENT IN SHARES &

DEBENTURE

POSSESSION OFCURRENCY

GOVT SECURITIES

LIFE INSURANCE

PROVIDENT FUNDS

STOCKS

MACHINERIES

PUBLIC LTD CO(NON GOVT,

NON FINANCIAL CO)

NET PROFIT(FINANCIAL STATEMENT)

ADMINISTRATIVE DEPT

ENTERPRISES

NET PROFIT(FINANCIAL STATEMENT)

Reasons For Low Saving Rate in India

Low per capita income

Exemption on Agriculture Income

from government

Demonstration effect

Failure of private sector

Failure of public sector

Sources of Saving in India Saving rate of household sector

YEARS HOUSEHOLD SECTOR

1970-71 10.1%

1973-74 72.6%

1974-75 65%

1978-79 71.6%

2001-02 96.6%

2003-04 86.5%

Source: Economic survey 2004-05

Sources of Saving in India Sources of saving in private sector

In private sector during 1987-88 domestic saving was only 1.7%.

During sixteen year period of 1988-89 to 2003-04 saving rate increase that is 4.1%.

Sources of saving in public sectorFailed to achieving a stable rate of saving.In 1982-83 it was around 4.3%.In 1983-84 it was declined.In 1998-99 has been negative

Suggestion for Raising the Rate of Saving

HOUSEHOLD SECTOR

PRIVATE SECTOR

PUBLIC SECTOR

Trends in Domestic Saving Rise in Domestic Saving

Domestic saving was 8.9 % of GDP in 1950-51.

It increases to 24.2% of GDP in 2002-03.

Total Gross Saving in 1950-51 was 887 Crores. Which increased to 5,97,697 crores in the year 2002-03.

Trends in Domestic Saving Recent Decline & Stagnation

There is a large jump in saving since 1950-51.

In 1970 there was steep rise with rate moving upto range of 20-21%.

A stagnation as well as decline started in 1980.

The lowest was less than 18% in 1983-84 and for five years period of 1981-82 to 1986-87 it remain stuck at the low level of 18-19%.

Varying Sectoral Contribution

Sources 1950-51

1970-71

1990-91

1999-00

2000-01

2003-04

2004-05

1. Household Sector

612 4634 109897 416726 446317

648634

687079

% of total domestic saving

69 69.7 83.7 85.51 89.93 81.33 75.72

2. Private Sector 93 672 15104 87234 87017 120852

150947

%of total domestic saving

10.5 10.1 11.5 17.9 17.5 15.1 16.6

3. Public Sector 182 1343 6279 -16659 -37062 28026 69390

%of total Domestic Saving

20.5 20.2 4.8 -3.4 -7.4 3.5 7.6

Total Domestic Saving(1+2+3)

887 6649 131340 487301 496272

797512

907416

Rs in Crores

Source: Economic survey 2005-06

Capital to Output Ratio

Period Capital – o/p Ratio 1951-52 to 1955-56 2.95

1956-57 to 1960-61 3.40

1991-92 to 1996-97 3.70

1997-98 to 2002-03 4.53

2002-03 to 2007-08 3.58

Source: Economic survey 2004-05

Causes of ICOR in Indian Economy

Pattern of Investment in late 60’s

Rise in price of Capital Goods

Inefficient use of Investment resources

Suggestions for improving capital output ratio

Better management of capital project

Completion of project at the given time

Making the capital stock available for supplementary invest

Efficiency and competition Proper training

Conclusions