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What Is a Capital Consumption Allowance?

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  • Written By: Malcolm Tatum
  • Edited By: Bronwyn Harris
  • Last Modified Date: 01 December 2016
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A capital consumption allowance is that portion of the gross domestic product of a nation that can be attributed to depreciation. In effect, the capital consumption allowance is a means of allowing for the fact that that there is a need for the replacement of resources in order to maintain a given level of productivity in the nation. This allowance actually addresses two aspects of the capital of a given country.

One aspect of the capital consumption allowance is the status of the physical capital of the country. Physical capital is sometimes referred to as ordinary capital, and involves the value of a wide range of physical assets, such as land, manufacturing plants, machinery, and other equipment used in the manufacturing process. Essentially, physical capital is any resource that is used in the production of goods and services, excluding humans and human labor.

The second factor that helps to make up the capital consumption allowance is human capital. This aspect is specifically concerned with the skill and knowledge that members of the work force bring to the task of producing goods and services. Along with considering the existing bank of knowledge and skills currently in active use, the capital consumption calculation will also allow for the cost of providing education and training for the next generation of persons who will enter the work force.

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Both physical and human capital are subject to depreciation over time. Physical assets such as buildings and machinery will wear over time, and need to be replaced. Human capital also experiences a graduation turnover, as workers retire from the work force and are replaced by newly trained workers who fill the open slots and maintain the status quo of productivity.

The point of the capital consumption allowance is not to measure productivity that increases the GDP of a given country. Rather, the allowance is a means of measuring how well a country is doing in maintaining a certain level of productivity from one measured period to the next.

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