Human Capital

Updated on 2023-08-29T11:59:54.407430Z

What is meant by Human Capital?

Human capital refers to the knowledge, skills and set of capabilities possessed by the working force of a nation. It is an asset for countries, and its inherent value lies in its uniqueness that comes from different individuals. To define: human capital is the collective productive capacity of the existing labour force of a nation.

Human capital is an asset which is hard to replace, unlike other types of assets. It is that feature of an economy which ultimately defines its growth rate given the amount of endowment and technological advancement that the country has.

How did the theory of human capital come into existence?

Human capital was first recognised as a source of productivity for a nation by Nobel prize winners Gary Becker and Theodore Schultz. This theory was given light under the pretext that investing in labour is as important as investing in other tangible assets. Both tangible and intangible forms of capital are essential to the production process and can be improved upon.

According to Gary Becker, there are two types of human capital on a microeconomic level:

1. Specific Human Capital: The set of abilities which benefit only a few companies.
2. General Human Capital: The set of abilities which benefit all companies.

A company would inevitably value specific human capital more than general human capital. The former includes skills and abilities that are present in a few select individuals, however the same is not true for general human capital.

What attributes does human capital include?

• Education: Education forms the foundation of human capital, as it sets a base for further improvement. Uneducated labour can be a liability rather than an asset to a company. However, it is not fair to generalise as many jobs require skills that can be taught on-the-job rather than through formal education.

Companies need a basic level of education to build upon. They need surety that the labour force that they are investing in would be beneficial to them.

• Health: Labour force must be physically and mentally sound to be productive. Thus, proper investment should be made towards ensuring that labour force is fit and healthy. On a macroeconomic scale, the healthcare status of an economy reflects the ability of an economy to produce. Thus, active regulation of the healthcare system and healthcare laws by the government is a sign of a strong labour force.
• Skills and on-the-job training: The investment made by companies in training their employees is a huge determinant of the skills possessed by them. These skills instilled in the labour force can be beneficial to their future employers as well.
• Work experience: There are a lot of aspects which become refined with experience. To survive in a competitive environment, it is important to possess on-the-spot solutions to everyday challenges.

Various other aspects influence human capital. Many professional qualities are developed with time and through training.

How is Human Capital calculated?

The World Bank recognises Human Capital Index (HCI) as a measure of the strength of human capital in an economy. A lot of aspects that constitute human capital are not quantifiable. However, various economic indicators can be used as proxies to include the aspects mentioned above.

HCI has the following components:

1. Survival: This aspect is used to measure the survival rate of children before they can be given formal education. This gives a quantifiable number of children who would be able to survive before the age of 5 years.
2. Expected years of learning-adjusted School: It includes not just the quantity of children below the age of 18 with formal education, but also the quality of education they have. The quality is judged based on the performance of the students relative to other countries’ students.
3. Health: Rate of stunting among children is used to measure the strength of the healthcare system of an economy. Also, adult survival rates are used to measure the effect of healthcare policies and their accessibility in a nation.

HCI is a widely accepted measure of Human Capital used by countries. It gives foreign investors an estimate of the economic strength of a country and its labour force.

How is Human capital reflective of a healthy economy?

Businesses need to be competitive to sustain profits. Labour force forms an integral part of any operation. The employees are hired with the intent of providing productive inputs to the business so that they can provide a future stream of income.

Thus, if the labour force underperforms, or does not possess appropriate skills, then it becomes a liability to the company rather than an asset.

For a nation, a strong labour force ensures that there are greater economic growth, increased foreign investment and a lower unemployment rate. Moreover, skilled and educated labour would be able to better complement the tangible assets in a business.

It is important to invest in the labour force before employing them. The responsibility of providing basic education and vocational skills lies upon the government. As a result of this, governments offer free education in some countries. It has also been observed that on average, the percentage of the population that has completed graduation is more likely to get a job than the percentage without a graduation degree.

Like any other form of capital, human capital is also susceptible to depreciation. As the working force grows old, their productivity declines, thus making it less incentivising for a company to hire them. While businesses value experienced employees, this knowledge is only beneficial to them if it brings output.

Thus, human capital formation is a vital aspect of the growth of an economy. There have been objections with respect to the theory of human capital. Many people feel that making assets out of humans was exploitative and selfish. Therefore, on a broader level, human capital benefits society overall and provides a wholistic means to achieve global competitiveness.