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Econometrics Exercise 3

Exercise 1 (Wooldridge 3.11) The following equation describes the median housing price in a community in terms of amount of pollution (nox for nitrous oxide) and the average number of rooms in houses in the community (rooms):
log (i) (ii) log What are the probable signs of 1 and 2 ? What is the interpretation of 1 . Explain. Why might nox [or more precisely, log( nox ) ] and rooms be negatively correlated? If this is the case, does the simple regression of log( price) on log( nox ) produce an upward or a downward biased estimator of 1 ? Using the data in HPRICE2.RAW, the following equations were estimated: log log 9.23 11.71 1.043 log , 0.718 log 0.306 506, , 0.264. 506, 0.514.

(iii)

Is the relationship between the simple and multiple regression estimates of the elasticity of price with respect to nox what you would have predicted, given your answer in part (ii)? Does this mean that -0.718 is definitely closer to the true elasticity than -1.043? Consider the multiple regression model containing three independent variables, under Assumptions MLR.1 through MLR.4: y = 0 + 1 x1 + 2 x2 + 3 x3 + u. You are interested in estimating the sum of the parameters on x1 and x2 ; call this 1 = 1 + 2 . (i) Show that = + is an unbiased estimator of .
1 1 2
1

Exercise 2 (Based on Wooldridge 3.5)

(ii) (iii)

Find Var (1 ) and se(1 ) in terms of Var ( 1 ) , Var ( 2 ) , and Corr ( 1 , 2 ) . Write down the test statistic for testing : 1 in terms of and and the
1 2

estimates of standard deviations and/or covariances of 1 and 2 .


Consider an equation to explain salaries of CEOs in terms of annual firm sales, return on equity (roe, in percentage form), and return on the firms stock (ros, in percentage form): log( salary ) = 0 + 1 log( sales ) + 2 roe + 3 ros + u. (i) In terms of the model parameters, state the null hypothesis that, after controlling for sales and roe, ros has no effect on CEO salary. State the alternative that better stock market performance increases a CEOs salary. Using the data in CEOSAL1.RAW, the following equation was obtained by OLS 4.32 0.280 log (0.32) (0.35) 0.283. 0.0174 (0.0041) 0.00024 (0.00054)

Exercise 3 (Wooldridge 4.1)

(ii)

209,

By what percentage is salary predicted to increase if ros increases by 50 points? Does ros have a practically large effect on salary? (iii) Test the null hypothesis that ros has no effect on salary against the alternative that ros has a positive effect. Carry out the test at the 10% significance level.

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