ArtsAutosBooksBusinessEducationEntertainmentFamilyFashionFoodGamesGenderHealthHolidaysHomeHubPagesPersonal FinancePetsPoliticsReligionSportsTechnologyTravel

Meaning and Functions of an Economy

Updated on November 11, 2013

Meaning of an Economy

As per Professor A G Brown, "Economy is a system by which people get their living." Just like a machine, made up different parts that perform specific functions, an economy is made up of a system which has different functions. Some people provide labour, some people provide land and others provide capital or entrepreneurship. All these parts which perform different functions work together and form the economy of the country. Remember, production generate income. It doesn't matter whether it is agricultural, manufacturing, mining, fishing or service industry, all these activities produce income for the people involved. For every dollar's worth of service and goods produced, income of a dollar is generated. There are different ways to produce goods and services. Production is taking place at schools, hospitals, factories, mines, shops, banks, cinema houses, ships, railways, roads, workshops, government and private offices, farms, airlines, spas etc.

All the above institutions which produce goods or services provide livelihood to the individuals or organization involved. All the income produced by all these institutions are collectively known as an economy. In other words, an economy is a collection of all the producing units located with in a geographical area of a country. Thus, we have American economy, Chinese Economy, Indian Economy, British Economy, Japanese economy, African economy, Russian economy etc. This means the collection of producing units of goods and services located within the geographical limits of the country concerned is called the economy of that country.

Activities/Functions of an economy.

For the survival and growth of an economy there must be some activities which needs to be repeated or continued for a long time. These activities satisfy the want an individual and provide a living for the people involved. All those activities, which provide a living to the people, for satisfaction of their wants can be grouped into the following three heads:

  1. Production.
  2. Consumption
  3. Capital Formation or investment.

Production: is defined as an activity which produces material goods and services or which increases the value of commodities already produced. A fisherman is extracting fishes from the sea or river can be called a producer. A farmer producing wheat or vegetables are producing goods, just like miners who extract goods from the earth.

There are other vocations which adds value to the existing goods. A shoe maker who buys leather from the market for $ 100 makes shoes and sell it for $ 200 at the market is adding value to leather. Here he added some value to the existing goods i.e. leather. We can say he added value of $100 ($200-$100=$100) to the leather. Thus he has done the production which has a value of $100.

A goldsmith who makes bangles from gold or a carpenter who convert wood in to furniture or a miller who converts wheat in to flour or a weaver who makes cloth from raw cotton are adding value in their respective area of work. Value added to goods are also comes under the head production. Just like physical goods, services can also satisfy human wants. For example, transporters, consultants, doctors, brokers, mechanics, insurance agents, accountants, judges, office clerks, electricians, teachers, guides, caretakers, security offices, policeman, postman etc. who earns an income by providing services can be treated as producers of service.

Consumption: Another activity which helps the economy to survive and grow is consumption. Consumption is the process of using up of goods and services for direct satisfaction of individual or collective human wants". An individual or a household purchase a large number of goods and services such as milk, food grains, oil, cloths, detergents, TV sets, computer, mobile phones, fridges, shoes, cars, cycles etc., and services like transport, doctors, banks, teachers, insurance, courier etc., to satisfy individual wants. All purchases of goods and services, except that of houses, by the household are comes under the household consumption and are called consumer goods.

Please note, houses are treated as capital goods instead of consumer goods because it provides housing service almost throughout the life of an individual.

Another form of consumption is collective consumption. Parks, hospitals, roads, schools, defense, law and order services are some examples of collective consumption. Government provides these services either free of cost or for a nominal price. Such consumptions can be called government consumption or collective consumption.

Gifts received in the form of goods by an household are treated as consumed, the moment they received. All goods, durable or non-durable are treated as consumed the moment they are acquired or purchased.

Capital Formation or Investment: The third and important function of an economy is capital formation. "Capital formation is the net addition to the capital stock of an economy during a given period." Usually all the goods produced by an economy in a year are not consumed in the same year. The excess goods produced are set apart for the consumption of the coming year. The excess of production over consumption is called investment or capital formation. Goods like transport equipment, machines, factories, buildings which can be used for further production for many years are called capital goods. Capital formation involves making capital goods.

As consumption increases, there arise the need of capital goods to increase the production which meet the demand for more goods. So capital formation or investment is the vital function of a growing economy. If there is no capital formation, the production decrease over a long period and the demand increases. To meet the growing demand, it is important for an economy to set aside a portion of its production as capital goods. Excess of production over consumption can be set aside and use for the capital formation.

It is evident from the above discussion that the production, consumption and capital formation or investment are inter related and are important functions of a growing economy.


This website uses cookies

As a user in the EEA, your approval is needed on a few things. To provide a better website experience, uses cookies (and other similar technologies) and may collect, process, and share personal data. Please choose which areas of our service you consent to our doing so.

For more information on managing or withdrawing consents and how we handle data, visit our Privacy Policy at:

Show Details
HubPages Device IDThis is used to identify particular browsers or devices when the access the service, and is used for security reasons.
LoginThis is necessary to sign in to the HubPages Service.
Google RecaptchaThis is used to prevent bots and spam. (Privacy Policy)
AkismetThis is used to detect comment spam. (Privacy Policy)
HubPages Google AnalyticsThis is used to provide data on traffic to our website, all personally identifyable data is anonymized. (Privacy Policy)
HubPages Traffic PixelThis is used to collect data on traffic to articles and other pages on our site. Unless you are signed in to a HubPages account, all personally identifiable information is anonymized.
Amazon Web ServicesThis is a cloud services platform that we used to host our service. (Privacy Policy)
CloudflareThis is a cloud CDN service that we use to efficiently deliver files required for our service to operate such as javascript, cascading style sheets, images, and videos. (Privacy Policy)
Google Hosted LibrariesJavascript software libraries such as jQuery are loaded at endpoints on the or domains, for performance and efficiency reasons. (Privacy Policy)
Google Custom SearchThis is feature allows you to search the site. (Privacy Policy)
Google MapsSome articles have Google Maps embedded in them. (Privacy Policy)
Google ChartsThis is used to display charts and graphs on articles and the author center. (Privacy Policy)
Google AdSense Host APIThis service allows you to sign up for or associate a Google AdSense account with HubPages, so that you can earn money from ads on your articles. No data is shared unless you engage with this feature. (Privacy Policy)
Google YouTubeSome articles have YouTube videos embedded in them. (Privacy Policy)
VimeoSome articles have Vimeo videos embedded in them. (Privacy Policy)
PaypalThis is used for a registered author who enrolls in the HubPages Earnings program and requests to be paid via PayPal. No data is shared with Paypal unless you engage with this feature. (Privacy Policy)
Facebook LoginYou can use this to streamline signing up for, or signing in to your Hubpages account. No data is shared with Facebook unless you engage with this feature. (Privacy Policy)
MavenThis supports the Maven widget and search functionality. (Privacy Policy)
Google AdSenseThis is an ad network. (Privacy Policy)
Google DoubleClickGoogle provides ad serving technology and runs an ad network. (Privacy Policy)
Index ExchangeThis is an ad network. (Privacy Policy)
SovrnThis is an ad network. (Privacy Policy)
Facebook AdsThis is an ad network. (Privacy Policy)
Amazon Unified Ad MarketplaceThis is an ad network. (Privacy Policy)
AppNexusThis is an ad network. (Privacy Policy)
OpenxThis is an ad network. (Privacy Policy)
Rubicon ProjectThis is an ad network. (Privacy Policy)
TripleLiftThis is an ad network. (Privacy Policy)
Say MediaWe partner with Say Media to deliver ad campaigns on our sites. (Privacy Policy)
Remarketing PixelsWe may use remarketing pixels from advertising networks such as Google AdWords, Bing Ads, and Facebook in order to advertise the HubPages Service to people that have visited our sites.
Conversion Tracking PixelsWe may use conversion tracking pixels from advertising networks such as Google AdWords, Bing Ads, and Facebook in order to identify when an advertisement has successfully resulted in the desired action, such as signing up for the HubPages Service or publishing an article on the HubPages Service.
Author Google AnalyticsThis is used to provide traffic data and reports to the authors of articles on the HubPages Service. (Privacy Policy)
ComscoreComScore is a media measurement and analytics company providing marketing data and analytics to enterprises, media and advertising agencies, and publishers. Non-consent will result in ComScore only processing obfuscated personal data. (Privacy Policy)
Amazon Tracking PixelSome articles display amazon products as part of the Amazon Affiliate program, this pixel provides traffic statistics for those products (Privacy Policy)
ClickscoThis is a data management platform studying reader behavior (Privacy Policy)