Question

Using the AD-AS model, show and explain how long-run real output (potential GDP) be affected by a financial crisis.

Answer 1

In the long run, the potential GDP is Q* and the long run price level is P* where Long run aggregate supply curve and aggregate supply curve and aggregate demand curve intersection . The long run equilbruim point is E* .

during the reccession, the aggregate demand declines in the economy and hence aggregate demand curve shift to the left and new GDP is less than potential GDP . new GDP is Q and the price level fall to P . The gap between the potential gdp and real GDP is known as the reccessionary Gap .