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Suppose that a heat wave is expected to hit Italy in a few weeks. It is...

Suppose that a heat wave is expected to hit Italy in a few weeks. It is expected to destroy much of the wineries there, causing the price of wine to increase in the future. Show on a graph and explain how you would expect this to affect the supply curve for wine today.

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Answer #1

In the graph, initial equilibrium occurs at point E where the economy is at potential output Y* and the SRAS, LRAS and AD curve intersect each other.

The destruction in wineries will reduce their supply in the market. As a result, the AS curve shifts up from SRAS to SRAS1. There will be an upward movement along the AD curve from E to E1. The price level will increase to P1 and the Real GDP falls from Y* to Y1. In such conditions, the economy experiences a Recessionary Gap.

**if you liked the answer, then please upvote. Would be motivating for me. Thanks.

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