Laurence Ball, N. Gregory Mankiw, and David Romer models that contradicts other leading macroeconomic theories and show that it holds in actual economies. In doing so, we point out a"new phenomenon"that Keynesian theories " render comprehensible The prediction that we test concerns the effects of steady inflation In Keynesian models, nominal shocks have real effects because nominal prices change infrequently. An increase in the average rate of inflation firms to adjust prices more frequently to keep up with the rising price level. In turn, more frequent price changes imply that prices adjust more quickly to nominal shocks and thus that the shocks have smaller real effects. We test this prediction by examining the relation between average inflation and the size of the real effects of nominal shocks both across countries and over time. We measure the effects of nominal shocks by the slope of the short-run Phillips curve Other prominent macroeconomic theories do not predict that average inflation affects the slope of the Phillips curve. In particular, ourempirical work provides a sharp test between the Keynesian explanation for the Phillips curve and the leading new classical alternative, the Lucas imperfect information model. 4 Indeed, one goal of this paper is to redo Lucas's famous analysis and dramatically reinterpret his results. Lucas and later authors show that countries with highly variable aggregate demand have steep Phillips curves. That is, nominal shocks in these countries have little effect on output. Lucas interprets this finding as evidence that highly variable demand reduces the perceived relative price changes resulting from nominal shocks. We provide a Keynes interpretation of Lucas' s result: more variable demand, like high average infation, leads to more frequent price adjustment. We then test the differing implications of the two theories for the effects of average infation. Our results are consistent with the Keynesian explanation for the Phillips curve and inconsistent with the classical explanation In addition to providing evidence about macroeconomic theories, our finding that average inflation affects the short-run output-inflation trade- off is important for policy. For example, it is likely that the trade-off facing policymakers in the United States has changed as a consequence of disinflation in the 1980s. Our estimates imply that a reduction in 4. Robert E. Lucas, Jr, "Expectations and the Neutrality of Money, Journal of Economic Theory, vol 4(April 1972),pp. 103-24; Lucas, ""Some International Evidence on Output-Inflation Tradeoffs, American Economic Review, vol. 63(June 1973), pp 326-34