Initially “capital” referred to goods that were produced not for consumption but for the production of other goods and that were not used up in the production of those other goods. The machinery used in the production of a consumable good was capital. Increasing capital is the key to growth.

The fact that the production of capital goods requires the use of productive capacity that might otherwise be devoted to consumer products seems to imply that increasing capital requires foregoing consumption. This is certainly true of an individual entrepreneur. If he wants to expand his business by acquiring more equipment and he does not have access to sufficient credit, he may have to wait to buy some of the personal goods he would like to have. Mainstream economics extrapolates from this to a general axiom that accumulating capital requires a sacrifice of current consumption over many years, and it connects this to the rate of “savings” by individuals. This implies money can be channeled into the investments that increase growth only if there are sufficient savings.

The problem with this theory is that money may be invested in capital goods without drawing on “savings” of individuals. [see Finance] If there are under-utilized resources and unemployed workers, capital goods can be produced without any reduction in consumption. In fact the extra economic activity involved in the production of capital goods may result in increased consumption. If the investment in capital goods is financed by profits, then the consumers have already invested in growth without having any personal savings.

In the current system the existence of financial markets induces businesses to expand using debt financing rather than re-invested profits or sales of additional shares. [see Debt Financing] The result is probably not so much the sacrifice of current consumption as a redistribution of it as wealth becomes concentrated in the hands of fewer people.

Most people who are not accountants or economists probably think of “capital” as financial assets that are supposed to yield income or appreciate in value on a market. This reflects our confusion about the nature of money. Money itself should not be viewed as a capital good that is expected to yield a return.