Mostly summarized from Gregory Mankiw’s Principles of Economics, 5th Ed.

PART 6 The Economics of Labor Markets
Chapter 18 of 36 The Markets for the Factors of Production
Section 17 of 21
…
Labor income is an easily understandable concept.
It is the paycheck workers get from their employers.
Capital income is less straightforward.
In the simple model of the overall economy we assume
· households (private individuals) own the economy's stock of capital such as ladders, drill presses, and warehouses
· rent this capital to the firms that use it
…
Capital income from this viewpoint is the rent households receive for firms’ use of capital owned by households.
Capital is bought by the money households invest in or lend to firms.
Firms directly receive the earnings from this capital from consumers of firms’ products.
These earnings from capital are eventually paid back to households.
…
Some of the firm’s earnings are paid in the form of interest to firms and individuals who have lent money to borrowing firms.
These include bondholders and bank depositors.
Bondholders directly lend to firms through purchase of firms’ bonds and receive interest payments directly from firms.
Bank depositors indirectly lend to firms when banks use their deposits to make loans to firms.
The depositors then receive interest payments from the borrowing firms back through their bank.
…
Some of the earnings from capital are paid to households in the form of dividends.
Dividends are payments by a firm to the firm's stockholders.
A stockholder
· is a person who has bought a share in the ownership of the firm
· is thereby entitled to a portion of the firm's profits
…
A firm usually does not pay out all its earnings to households as interest and dividends.
It retains some earnings within the firm and uses these earnings to buy additional capital with the expectation additional profits will result.
Although these retained earnings are not paid to the firm's stockholders, the stockholders benefit.
Retained earnings increase the amount of capital the firm owns and increase
· value of the firm's stock
· future earnings and dividend payments
…
In short, capital income is payments from firms to households that are owners of or lenders to firms.

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