Problem: Suppose that in Wageland all workers sign annual wage contracts each year on January 1^st. No matter what happens to prices of final goods and services during the year, all workers earn the wage specified in their annual contract. This year, prices of final goods and services fall unexpectedly because of an unexpected fall in aggregate demand after the contracts are signed. Answer the following questions using an aggregate supply and aggregate demand diagram and accompanying explanations. Assume that the economy starts at potential output. Explain your answers and provides examples.

Required:

Question 1: In the short run, how will the quantity of aggregate output supplied respond to the fall in prices?

Question 2: What will happen when firms and workers renegotiate their wages?