Answer to Question #226367 in Macroeconomics for Sachitha

Question

List some empirical example to support each theory which explain why the short run aggregate supply curve is upward sloping

Answer 1

These three theories proposed to explain the short-run aggregate-supply curve is upward sloping are:

1. The sticky-wage theory

2. The sticky-price theory

3. The misperceptions theory

(1) The sticky-wage theory, in which an unexpected fall in the price level temporarily raises real wages which induces firms to reduce employment and production.

In other words, a lower price level makes employment and production less profitable because wages do not adjust immediately to the price level, so firms reduce the number of goods and services supplied.

(2) The sticky-price theory, in which an unexpected price fall in the price level leaves some firms with prices that are temporarily too high, which reduces their sales and causes them to cut back production.

In other words, a sudden fall in the price level leaves some firms with higher-than-desired prices because not all prices adjust directly to changing conditions, which depresses sales and induces firms to reduce the number of goods and services they produce.

(3) The misperceptions theory, in which an unexpected fall in the price level leads suppliers to mistakenly believe that their relative prices have fallen, which induces them to reduce production.

In other words, a lower price level causes misperceptions about relative prices, and these misperceptions induce suppliers to respond to the lower price level by decreasing the number of goods and services supplied. The supply of goods is including the various relative prices.