How The Concept of Rate of Profit Works

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The concept of rate of profit is an economic theory, which plays a central role in investment. It expresses the degree of recovery of the invested capital. And to determine the profit, the replacement expenses can be calculated to yield the capital cost.

The rate of profit hinges upon the definition of funds invested, and two basic measurements as regards the value of capital applied, and these include capital at historical cost and capital at market value.

In essence, historical cost constitutes the actual cost of a given asset at the point of acquisition. The rate of profit (in terms of capital analysis of Karl Marx) expresses the relationship between the generated value and the need for this generation use of capital.

The capital is made up of the constant capital (ie, capital for machinery, buildings, raw and auxiliary materials) and the variable capital and the wage bill for labor are exploited.

Alternatively, the calculation of the rate of profit together with the replacement cost of capital assets should be uitilized to determine the cost of capital.

Machinery replacements cannot be effected on the basis of their historical cost, instead can only be bought at the current prices. Hence, the rate of profit would be inaccurate if calculated on the grounds of lower historical cost to ascertain the true value of capital invested.

The profit is the innermost driving force of the capitalist mode of production. That is, production is inspired by the predetermined capacity to yield a higher value from the output as to derive a significant margin in profit. And market value is the re-sale value, replacement value, or value in present or alternative use.

The accumulation of capital or the permanent extension of the material such as value-based production, occurs in a manner that expands constant capital relative to variable capital. In principle, the value composition of capital grows.

Companies attain higher sales for every employee for as long as they invest more into each one, and companies naturally boost investments on their staff if they realize the benefits of doing so through a higher rate of profit.

Fixed capital relates to the means of production, that are utilized for a period exceeding one year. The industrialist has to consider the fact that instruments and machines have a limited life span, and therefore need to be replaced.

Some money needs to be set aside for the purposes of covering the replacement costs due to equipment depreciation, so as to stay operational. And the depreciation costs can be established by calculating the expense per year.


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