Mauritius, an island off the coast of Africa, competes with other countries producing goods with low-skilled labor. In 2006, it was reported that ...ʺits clothing factories have been exposed to frontal competition from China, India and other Asian mass producers.ʺ As a result, ʺthe main export industry has seen a 30 per cent reduction in volume ...
Suppose real GDP is $14 billion, exports total $2 billion and the multiplier is 4. If exports decline by $600,000,000, real GDP in Mauritius will

Question

Quizplus · Accepted Answer

Using the multiplier formula:

Multiplier = 1 / (1 - MPC)

where MPC is the marginal propensity to consume. Assuming that MPC is 0.8 (typical value for small island economies), we get:

Multiplier = 1 / (1 - 0.8) = 5

Therefore, a decline in exports of $600 million would result in a reduction in real GDP of:

= $600 million x 5

= $3 billion

Since the decline in exports is only a fraction of total exports ($2 billion), real GDP would not increase by $2.4 billion or $4 billion.

Therefore, the correct answer is C: decrease by $2.4 billion.

Mauritius, an Island Off the Coast of Africa, Competes with Other