5 . Why the aggregate supply curve slopes upward in the short run

In the short run, the quantity of output that firms supply can deviate from the natural level of output if the actual price level in the economy deviates from the expected price level. Several theories explain how this might happen.

For example, the sticky-wage theoryasserts that output prices adjust more quickly to changes in the price level than wages do, in part because of long-term wage contracts. Suppose a firm signs a contract agreeing to pay its workers $15 per hour for the next year, based on an expected price level of 100. If the actual price level turns out to be 110, the firm's output prices will___(remain the same, rise, fall), and the wages the firm pays its workers will remain fixed at the contracted level. The firm will respond to the unexpected increase in the price level by____(reducing, increasing) the quantity of output it supplies. If many firms face similarly rigid wage contracts, the unexpected increase in the price level causes the quantity of output supplied to___(rise above, fall below) the natural level of output in the short run.

Suppose the economy's short-run aggregate supply (AS) curve is given by the following equation: