Context: The 4th Quarter GDP for Nowhere has fallen by 3.5% compared to the previous quarter. The downturn was caused by a fall in personal consumption expenditure as foreign tourists avoided visiting Nowhere given the serious flooding situation. This disappointing result was also due to a drastic decline in Nowhere citizens’ travel to nearby countries such as Somewhere, where they typically bulk purchase affordable toiletries, go for hair treatment and even car wash. Nowhere’s healthcare sector was the only sector that kept the GDP figure from further decline. There was a significant increase in the demand for health screening services, thanks to the government’s efforts in raising public awareness of such preventive measures. Nowhere’s official unemployment rate revealed that the labour market remained strong despite the underperforming economy. However, analysts were doubtful of this low rate reported. “More citizens are returning from the city to their rural hometowns within Nowhere to work. It is hard to capture those who work in the rural region. High chance that the unemployment rate is understated.” said Miss Gamora from the Guardian Bank. There were also signs of increasing cyclical unemployment. “We see a trend in furniture manufacturers such as IKEA relocating their factories to Indonesia and India to benefit from the low labour costs.” said Mr. Groot from the Galaxy bank, in a separate interview. Question: The reporter has made FOUR mistakes in his application of economics concepts. Identify his mistakes and explain why he was wrong.

Answer:

Analysis of the Reporter’s Mistakes in Economics Concepts

The reporter made four mistakes in his application of economics concepts. Firstly, he incorrectly attributed the fall in GDP to the decrease in personal consumption expenditure, when the decrease could be attributed to other factors such as a decrease in investment or exports. Secondly, he failed to consider the multiplier effect, where one change in spending leads to a larger change in economic output. Thirdly, he was incorrect in assuming that the decrease in travel to nearby countries would cause a decrease in GDP, when the decrease could be attributable to a decrease in the income of the citizens of Nowhere. Finally, he incorrectly assumed that the official unemployment rate was accurate in representing the actual rate of unemployment, when the rate could be understated due to unreported employment in rural areas.

The Fall in GDP

The reporter incorrectly attributed the fall in GDP to the decrease in personal consumption expenditure, when other factors such as a decrease in investment or exports could have caused the decrease. Personal consumption expenditure (PCE) is only one component of GDP, and is measured by the value of goods and services purchased by households. The other components of GDP, such as investment, government spending, and exports, must also be considered in order to determine the overall economic performance.

The Multiplier Effect

The reporter failed to consider the multiplier effect, which states that one change in spending leads to a larger change in economic output. The multiplier effect is an economic concept which states that when one person or entity spends money, that spending has a ripple effect on the economy. In other words, one change in spending leads to a larger impact on economic output.

The Decrease in Travel to Nearby Countries

The reporter was incorrect in assuming that the decrease in travel to nearby countries would cause a decrease in GDP, when the decrease could be attributable to a decrease in the income of the citizens of Nowhere. When citizens of Nowhere travel to nearby countries, such as Somewhere, they typically bulk purchase affordable toiletries, go for hair treatment and even car wash. This provides a source of income for the citizens of Nowhere, and when this income decreases, GDP can also decrease.

The Official Unemployment Rate

The reporter incorrectly assumed that the official unemployment rate was accurate in representing the actual rate of unemployment, when the rate could be understated due to unreported employment in rural areas. The official unemployment rate is determined by the number of people unemployed as a percentage of the total labour force. However, it does not take into account the number of people who are employed but not reported, such as those in rural areas. This can lead to an understated unemployment rate.

Related Questions

• What is the multiplier effect?
• What are the components of GDP?
• What is the official unemployment rate?
• What is personal consumption expenditure?
• How do changes in investment affect GDP?
• How do changes in government spending affect GDP?
• How do changes in exports affect GDP?
• What is the relationship between changes in travel and GDP?
• What is cyclical unemployment?
• Why is the official unemployment rate understated?