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In high school economics, students are taught that there are four factors of production: land, labour, capital and enterprise, and that the rewards for each are respectively: rent, wages, capital and profit.

Capital here is defined as capital goods - goods which are used in the production of goods and services, not in the sense of financial capital. Given this, I can't see why the reward for capital would be interest, if capital is defined in this way.

One argument I've heard is that any sort of investment is typically invested into capital goods and the opportunity cost of this investment is some rate of interest. I'm not entirely convinced because you could easily apply the same logic to, say, investment into land.

Does anyone the originator of the concept of the four factors of production and their respective rewards? The Wikipedia article is somewhat informative in that it differentiates between the different forms of capital, but it still doesn't answer my question about the returns from the factors of production.

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Does anyone the originator of the concept of the four factors of production and their respective rewards?

First scholar, or at least first western scholar (since some earlier theories could be traced to some Islamic scholars such as Ibn Khaldun that were unknown to the west), to develop somewhat coherent theory of capital as a factor of production was Turgot (1770) in Réflexions sur la formation et la distribution des richesses [ Reflections on the formation and distribution of wealth’].

As far as I know modern economic definition of capital can be traced to the Fisher (1906).

Why is the reward for providing capital goods interest?

Because Turgot and other scholars who first developed these theories decided to call return to capital interest.

According to Turgot (1770, para LXXXIX), interest

be regarded as a kind of thermometer of the abundance or scarcity of capitals in a Nation, and of the extent of the enterprises of all kinds in which it may engage.

Also, already early scholars such as Turgot or Smith realized that due to market forces rewards to capital have to be (approximately) equal to the rate of interest. Hence for them there was no distinction between return to capital and interest, interest is the reward for capital.

Since it does not matter what you call a whatever return to whatever factor as long as other scholars understand what you mean, interest was used in modern writing as well even if the common English meaning of the word interest or even the word capital itself might have changed.

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  • $\begingroup$ Thanks for your answer. It's still unclear to me where in history the distinction between financial capital and capital goods came about, and why the returns to both are called 'interest'. $\endgroup$
    – Gary Liang
    May 18, 2023 at 4:34
  • $\begingroup$ @GaryLiang historically there wasn't distinction, they were treated as the same thats why they are both called interest $\endgroup$
    – 1muflon1
    May 18, 2023 at 11:40
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Aren't these just nomenclature? You could easily group land and capital into one group and call the income from those "rent" or "interest". For example, in the neoclassical growth model one assumes only two factors: labor and capital. The return households get from their labor endowment and their capital is then equal to the marginal productivity of those factors in production.

So, adding more factors to be more specific leads to differentiated names for the rents one derives from them but those are unimportant.

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  • $\begingroup$ Thanks for your answer. I do agree that it is a semantic issue, but I'm still looking for a way to explain it to high school students that makes sense! $\endgroup$
    – Gary Liang
    May 18, 2023 at 4:33

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