Econ 371

Problem Set #1
Answer Sheet

2.1 In this question, you are asked to consider the random variable Y , which denotes the number of “heads” that
occur when two coins are tossed.

a. The first part of the question asks you to derive the probability distribution for Y . For a discrete
random variable, this is just a listing of all the possible outcomes and the probability that they can
occur. Assuming that the two coins are fair, there are only four possible results when we flip the two
coins:
• Heads,Heads (Y = 2)
• Heads,Tails (Y = 1)
• Tails,Heads (Y = 1)
• Tails,Tails (Y = 0)
which happen with equal probability. The corresponding probability distribution is given by the following
table.

outcome (number of heads) Y= 0 Y =1 Y =2

probability 0.25 0.50 0.25

b. The cumulative probability distribution function for Y corresponds to just computing the probabilities
of Y being less than or equal to a given value

outcome (number of heads) Y <0 0≤Y <1 1≤Y <2 Y >2

cumulative probability 0 0.25 0.75 1

c. Finally, you are asked to derive the mean and variance of Y . These are given by:
k
X k
X
E(Y ) = P r(Y = yi )yi = pi yi
i=1 i=1
= (0.25) · 0 + (0.50) · 1 + (0.25) · 2
= 1

and
k
X
V ar(Y ) = E[(Y − µY )2 ] = pi (yi − µY )2
i=1
= (0.25) · (0 − 1)2 + (0.50) · (1 − 1)2 + (0.25) · (2 − 1)2
= (0.25) · 1 + (0.50) · 0 + (0.25) · 1
= 0.5

2.3 In this question, you are asked to compute various characteristics of two random variables, W and V that
are functions of the random variables in Table 2.2 (X and Y ). Specifically, we have:

W = 3 + 6X
V = 20 − 7Y

a. First, you are asked to compute E(W ) and E(V ). From equation (2.12) in the text, we know that:

E(W ) = 3 + 6E(X) (1)

1
 but, using Table 2.2 and our formula for computing means, we have that
kX
X
E(X) = pi xi
i=1
= (0.30) · 0 + (0.70) · 1
= 0.7

Substituting this into (1) yields.

E(W ) = 3 + 6E(X) = 3 + 6(0.7) = 7.2 (2)

Similarly,
kY
X
E(Y ) = pi xi
i=1
= (0.22) · 0 + (0.78) · 1
= 0.78,

so that
E(V ) = 20 − 7E(Y ) = 20 − 7(0.78) = 14.54. (3)

b. In part b you are asked to compute the corresponding variances for W and V . Equation (2.13) in the
text tells us that:
2
σW = 62 · σX
2 2
= 36σX
σV2 = (−7)2 · σY2 = 49σY2

Turning to our formulas for variances, however, we know that:

kX
X
V ar(X) = pi (xi − µX )2
i=1
= (0.30) · (0 − 0.7)2 + (0.70) · (1 − 0.7)2
= (0.30) · (0.49) + (0.70) · (0.09)
= 0.21

So that
2
σW = 62 · σX
2
= 36(0.21) = 7.56 (4)
Similarly,
kY
X
V ar(Y ) = pi (yi − µY )2
i=1
= (0.22) · (0 − 0.78)2 + (0.78) · (1 − 0.78)2
= (0.22) · (0.6084) + (0.78) · (0.0484)
= 0.1716

So that
σV2 = 492 · σY2 = 49(0.1716) = 8.4084 (5)

c. Finally, you are asked to compute σW V and corr(W, V ) There are two ways to do this (at least). First,
you can derive the formula for the covariance term using:

Cov(W, V ) = Cov(3 + 6X, 20 − 7Y ) = 6(−7)Cov(X, Y ) (6)

2
 But, using the formula in equation (2.24) in the text, we have that:

Cov(X, Y ) = σXY = E [(X − µX )(Y − µY )]

kX X
X kY
= xi − µX )(yj − µY )P r(X = xi , Y = yj )
i=1 j=1
= (0 − 0.7)(0 − 0.78)(0.15) + (1 − 0.7)(0 − 0.78)(0.07)
+ (0 − 0.7)(1 − 0.78)(0.15) + (1 − 0.7)(1 − 0.78)(0.63)
= 0.0819 − 0.01638 − 0.0231 + 0.04158
= 0.084

So that
Cov(W, V ) = Cov(3 + 6X, 20 − 7Y ) = 6(−7)(0.084) = −3.528. (7)
Alternatively, since knowing the values of X and Y tells the corresponding values for W and V , we can
use this information to construct the probability distribution table for W and V .
Specifically, we have that: The probability distribution for W and V can be used directly to compute

X=0⇒W =3 X=1⇒W =9
Y = 0 ⇒ V = 20 0.15 0.07
Y = 1 ⇒ V = 13 0.15 0.63

Cov(W, V ) using equation 2.24 in the book, which will give us Cov(W, V ) = −3.528. However you
compute Cov(W, V ), the correlation results from using the equation:
Cov(W, V ) −3.528
corr(W, V ) = p =p = −0.4425 (8)
V ar(W )V ar(V ) (7.56)(8.4084)

2.6 This question considers the joint probability distribution between employment status and college graduation.
a. The first question asks you to compute the mean of the “employed” random variable Y . This would be
given by:
kY
X
E(Y ) = pi yi
i=1
= (0.05) · (0) + (0.95) · (1)
= 0.95

b. The unemployment rate is given by

Number employed
Unemployment rate =
Number in labor force
= P r(Y = 0)
= 1 − P r(Y = 1)
= 1 − E(Y )

c. In order to compute the conditional means in this question, we need to know the conditional probabilities.
These can be calculated using equation (2.17). For the current problem:
P r(X = 0, Y = 0) 0.045
P r(Y = 0|X = 0) = = = 0.0597
P r(X = 0) 0.754
P r(X = 0, Y = 1) 0.709
P r(Y = 1|X = 0) = = = 0.9403
P r(X = 0) 0.754
P r(X = 1, Y = 0) 0.005
P r(Y = 0|X = 1) = = = 0.0203
P r(X = 1) 0.246
P r(X = 1, Y = 1) 0.241
P r(Y = 1|X = 1) = = = 0.9797
P r(X = 1) 0.246

3
 The conditional means then follow using equation (2.18) in the text:

E(Y |X = 0) = (0) · P r(Y = 0|X = 0) + (1) · P r(Y = 1|X = 0) = 0.9403

E(Y |X = 1) = (0) · P r(Y = 0|X = 1) + (1) · P r(Y = 1|X = 1) = 0.9797

d. The unemployment rate, conditional on the college graduation status, is computed in much the same
way as the unemployment rate was computed in part (b), only now we are conditioning on graduation
status. Thus,
Number employed among college graduates
Unemployment rate|X = 1 =
Number of college graduates in labor force
= P r(Y = 0|X = 1)
= 1 − P r(Y = 1|X = 1)
= 1 − E(Y |X = 1)
= 0.0203

Similarly
Number employed among non-college graduates
Unemployment rate|X = 0 =
Number of non-college graduates in labor force
= P r(Y = 0|X = 0)
= 1 − P r(Y = 1|X = 0)
= 1 − E(Y |X = 0)
= 0.0597

e. This question asks first what the probability of a randomly selected individual is unemployed. This is
given by the P r[Y = 0] = 0.05. You are then asked to compute conditional probabilities. That is, you
are asked to compute the probability that an individual is a college graduate, given that you know they
are unemployed. Mathematically, this corresponds to:

P r(X = 1, Y = 0) 0.005
P r(X = 1|Y = 0) = = = 0.10 (9)
P r(Y = 0) 0.050

Thus, there is only a ten percent chance that a randomly selected unemployed person is a college
graduate. The probability that a randomly selected unemployed person is a non-college graduate is then

P r(X = 0|Y = 0) = 1 − P r(X = 1|Y = 0) = 0.90 (10)

f. In order to check independence, we need to determine if equation (2.22) in the text holds; i.e.,

P r(Y = y|X = x) = P r(Y = y). (11)

However, we know that this does not hold, since

P r(Y = 0|X = 0) = 0.0597 6= P r(Y = 0) = 0.05. (12)

2.12 This question asks you to look up a number of the probabilities associated with specific distributions.

a. The first question asks for P r(Y > 1.75) if Y is distributed t15 . This corresponds to the 1-sided
significance level in Table 2. Looking under the 15 degrees of freedom case, we find that the 1-sided
significance level of 5% has a critical level of 1.75. That is, P r(Y > 1.75) = 0.05, which is what we were
looking for.
b. The second question asks for P r(−1.99 ≤ Y ≤ 1.99) if Y is distributed t90 . However, this can be
rewritten as:
P r(−1.99 ≤ Y ≤ 1.99) = 1 − [P r(Y < −1.99) + P r(Y > 1.99)] (13)

4
 The term in square brackets above is just the 2-sided significance level in Table 2 (i.e., the probability
that Y lies in the tails of the t-distribution - above 1.99 or below -1.99). Looking under the 90 degrees
of freedom case, we find that the 2-sided significance level of 5% has a critical level of 1.99. That is,
[P r(Y < −1.99) + P r(Y > 1.99)] = 0.05. This in turn implies that

P r(−1.99 ≤ Y ≤ 1.99) = 1 − [P r(Y < −1.99) + P r(Y > 1.99)] = 0.95 (14)

c. The third question asks for P r(−1.99 ≤ Y ≤ 1.99) if Y is distributed N (0, 1). This can be rewritten as:

P r(−1.99 ≤ Y ≤ 1.99) = P r(Y ≤ 1.99) − P r(Y < −1.99) (15)

From Table 1 we know that P r(Y ≤ 1.99) = 0.9767 and P r(Y < −1.99) = 0.0233, so that

P r(−1.99 ≤ Y ≤ 1.99) = P r(Y ≤ 1.99) − P r(Y < −1.99) = 0.9767 − 0.0233 = 0.9534. (16)

d. The t-distribution and the standard normal are approximately the same as the degrees of freedom become
large.
e. The fifth question as for P r(Y > 4.12) if Y is distributed F4,7 . This corresponds to the significance
level. Looking through the three tables 5A, 5B and 5C, we see that for an F4,7 distribution:

P r(Y > 2.96) = 0.10

P r(Y > 4.12) = 0.05
P r(Y > 7.85) = 0.01

The answer we are looking for is the second one; i.e., P r(Y > 4.12) = 0.05.
f. The sixth question as for P r(Y > 2.79) if Y is distributed F7,120 . This corresponds to the significance
level. Looking through the three tables 5A, 5B and 5C, we see that for an F7,120 distribution:

P r(Y > 1.77) = 0.10

P r(Y > 2.09) = 0.05
P r(Y > 2.79) = 0.01

The answer we are looking for is the third one; i.e., P r(Y > 2.79) = 0.01.

2.14 This question makes use of the central limit theorem, which says that as the sample size gets large, the
sampling distribution for Ȳ can be approximated by N (µY , σȲ2 ), where

σY2
σȲ2 = . (17)
n
This also means that
Ȳ − µȲ
∼ N (0, 1). (18)
σȲ
σ2 43
a. In this first question, you are told that n = 100, so that σȲ2 = nY = 100 = 0.43. With this information,
we know that:
¡ ¢ ¡ ¢
P r Ȳ ≤ 101 = P r Ȳ − µȲ ≤ 101 − µȲ
µ ¶
Ȳ − µȲ 101 − µȲ
= Pr ≤
σȲ σȲ
µ ¶
101 − µȲ
= Φ
σȲ
µ ¶
101 − 100
= Φ √
0.43
≈ Φ(1.525) = 0.9364.

5
 σ2 43
b. In this second question, you are told that n = 165, so that σȲ2 = nY = 165 = .2606. With this
information, we know that:
¡ ¢ ¡ ¢
P r Ȳ ≤ 98 = P r Ȳ − µȲ ≤ 98 − µȲ
µ ¶
Ȳ − µȲ 98 − µȲ
= Pr ≤
σȲ σȲ
µ ¶
98 − µȲ
= Φ
σȲ
µ ¶
98 − 100
= Φ √
0.2606
≈ Φ(−3.92) ≈ 0.0000.

We can then use this to calculate:

¡ ¢ ¡ ¢
P r Ȳ > 98 = 1 − P r Ȳ ≤ 98 ≈ 1. (19)

σ2
c. In this third question, you are told that n = 64, so that σȲ2 = nY = 43 64 = .6719. With this information,
we know that:
¡ ¢ ¡ ¢
P r 101 ≤ Ȳ ≤ 103 = P r 101 − µȲ ≤ Ȳ − µȲ ≤ 103 − µȲ
µ ¶
101 − µȲ Ȳ − µȲ 103 − µȲ
= Pr ≤ ≤
σȲ σ σ
µ ¶ µȲ ¶ Ȳ
103 − µȲ 101 − µȲ
= Φ −Φ
σȲ σȲ
µ ¶ µ ¶
103 − 100 101 − 100
= Φ √ −Φ √
0.6719 0.6719
≈ Φ(3.66) − Φ(1.22) ≈ 0.9999 − 0.8888 = 0.1111.

2.16 There are several ways to do this. Here is one way. Generate n draws of Y , Y1 , Y2 ,. . . Yn . Let Xi = 1 if Yi < 3.6,
otherwise set Xi = 0.. Notice that Xi is a Bernoulli random variables with µX = P r(X = 1) = P r(Y < 3.6).
Compute X̄. Because X̄ converges in probability to µX = P r(X = 1) = P r(Y < 3.6), X̄ will be an accurate
approximation if n is large