Time to combine your AD and SRAS knowledge! We're about to discover how these curves work together to explain economic booms and busts.

When AD and SRAS intersect, that's our economy's equilibrium - where actual output and price level settle.

Engagement Message

What two things does this intersection point tell us about the economy?

Here's the crucial concept: potential output is the economy's maximum sustainable production level. It's our economic "speed limit."

The Long-Run Aggregate Supply (LRAS) is vertical at potential output. In the long run, prices adjust but output returns to this level.

Engagement Message

What happens if we try to produce beyond our potential output for too long?

A recessionary gap occurs when actual output falls below potential output. The AD-SRAS intersection is left of the LRAS line.

This means unemployment is above the natural rate and resources are underutilized. The economy is performing below its capacity.

Engagement Message

If unemployment is 8% and the natural rate is 5%, what type of gap exists?

An inflationary gap occurs when actual output exceeds potential output. The AD-SRAS intersection is right of the LRAS line.

This creates upward pressure on prices as the economy overheats. Unemployment falls below the natural rate.

Engagement Message

What would you expect to happen to inflation during an inflationary gap?

Here's the beautiful part: the economy self-corrects! In a recessionary gap, high unemployment eventually puts downward pressure on wages.

Lower wages reduce business costs, shifting SRAS rightward. This continues until we reach potential output.