explained-assumed directly, as in disequilibrium models, orintroduced through theoretically arbitrary assumptions about labor contracts Indeed it was clearly in the interests of agents to eliminate the rigidities they were assumed to create. If wages, for example, were set above market-clearing level, firms could increase profits by reducing wages Microeconomics teaches us to reject models in which, as Robert lucas puts it, " there are $500 bills on the sidewalk. Thus the 1970s and early 1980s saw many economists turn away from Keynesian theories and toward new classical models with flexible wages and prices But Keynesian economics has made much progress in the past few ears. Recent research has produced models in which optimizing agents choose to create nominal rigidities. This accomplishment derives largely from a central insight: nominal rigidities, and hence the real effects of nominal demand shocks, can be large even if the frictions preventing full nominal flexibility are slight. Seemingly minor aspects of the economy. such as costs of price adjustment and the asynchronized timing of price changes by different firms, can explain large nonneutralities Theoretical demonstrations that Keynesian models can be reconciled with microeconomics do not constitute proof that Keynesian theories are correct. Indeed a weakness of recent models of nominal rigidities is that they do not appear to have novel empirical implications. As Lawrence Summers argues While words like menu costs and overlapping contracts are often heard little if any empirical work has demonstrated connection between the extent of these phenomena and the pattern of cyclical fluctuations. It is difficult to think of any anomalies that Keynesian research in the nominal rigidities"'tradition has resolved, or of any new phenomena that it has rendered comprehensible. 3 The purpose of this paper is to provide evidence supporting Keynesian theories. We point out a simple prediction of Keyne odels General Disequilibrium Model of Income and Employment, American Economic Review, 1), pp, 82-93; and E. Malinvaud, The Theory of Term Contracts, Rational Expectations and the Optimal Money Supply Rule, Journal of Political Economy, vol. 85(February 1977), pp. 191-205; and Jo Anna Gray,On indexation and Contract Length, Journal of Political Economy, vol 86( February 1978) pp.1-18 eh hould Keynesian econ Curve? ""in Rod Cross, ed. Unemployment, Hysteresis, and the Natural Rate Hypothesis (Basil Blackwell, 1988), p. 12