Human capital formation

The essentials

Just as a country turns physical resources like land into physical capital such as factories, it can turn people into human capital: engineers, doctors, teachers and skilled workers. Human capital formation is the process of adding to the stock of human capital over time, by developing people's skills, knowledge and health.

Sources of human capital

• Education: the most important source; it raises earning capacity and productivity.
• Health: a healthy worker can work better and for longer; spending on health includes preventive and curative care and public health.
• On-the-job training: firms train workers to raise their productivity.
• Migration: people move to places with better jobs; the cost of moving is an investment that is repaid by higher earnings.
• Information: spending on getting information about labour markets, education and health helps people make better decisions.

Key points

• Human capital raises productivity, supports innovation and the use of new technology, and contributes to economic growth.
• Human capital vs human development: human capital treats education and health as means to raise labour productivity; human development treats them as ends in themselves, since they are part of well-being.
• Human capital is not sold in the market like physical capital; only its services are.
• The Kothari Commission (1964–66) recommended that 6% of GDP be spent on education.
• The Right to Education Act (2009) made elementary education free and compulsory for children aged 6 to 14 years.
• Problems in India: rising population, brain drain, low spending on education and health, and an insufficient emphasis on on-the-job training.

Common mistakes

• Treating human capital and physical capital as identical; human capital cannot be separated from its owner.