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Chapter 3
Chapter 3
Chapter 3
Chapter Three
THE CLASSICAL REGRESSION ANALYSIS
[The Simple Linear Regression Model]
Economic theories are mainly concerned with the relationships among various economic
variables. These relationships, when phrased in mathematical terms, can predict the effect of one
variable on another. The functional relationships of these variables define the dependence of one
variable upon the other variable (s) in the specific form. The specific functional forms may be
linear, quadratic, logarithmic, exponential, hyperbolic, or any other form.
In this chapter we shall consider a simple linear regression model, i.e. a relationship between two
variables related in a linear form. We shall first discuss two important forms of relation:
stochastic and non-stochastic, among which we shall be using the former in econometric
analysis.
Assuming that the supply for a certain commodity depends on its price (other determinants taken
to be constant) and the function being linear, the relationship can be put as:
Q f ( P) P (2.1)
The above relationship between P and Q is such that for a particular value of P, there is only one
corresponding value of Q. This is, therefore, a deterministic (non-stochastic) relationship since
for each price there is always only one corresponding quantity supplied. This implies that all the
variation in Y is due solely to changes in X, and that there are no other factors affecting the
dependent variable.
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If this were true all the points of price-quantity pairs, if plotted on a two-dimensional plane,
would fall on a straight line. However, if we gather observations on the quantity actually
supplied in the market at various prices and we plot them on a diagram we see that they do not
fall on a straight line.
The derivation of the observation from the line may be attributed to several factors.
a. Omission of variables from the function
b. Random behavior of human beings
c. Imperfect specification of the mathematical form of the model
d. Error of aggregation
e. Error of measurement
In order to take into account the above sources of errors we introduce in econometric functions a
random variable which is usually denoted by the letter ‘u’ or ‘ ’ and is called error term or
random disturbance or stochastic term of the function, so called be cause u is supposed to
‘disturb’ the exact linear relationship which is assumed to exist between X and Y. By
introducing this random variable in the function the model is rendered stochastic of the form:
Yi X ui ……………………………………………………….(2.2)
Thus a stochastic model is a model in which the dependent variable is not only determined by the
explanatory variable(s) included in the model but also by others which are not included in the
model.
3.2. Simple Linear Regression model.
The above stochastic relationship (2.2) with one explanatory variable is called simple linear
regression model.
The true relationship which connects the variables involved is split into two parts:
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a part represented by a line and a part represented by the random term ‘u’.
The scatter of observations represents the true relationship between Y and X. The line
represents the exact part of the relationship and the deviation of the observation from the line
represents the random component of the relationship.
Y1 , Y2 ,......, Yn corresponding to X 1 , X 2 ,...., X n . These points diverge from the regression line by
u1 , u 2 ,...., u n .
Yi xi ui
the dependent var iable the regression line random var iable
The first component in the bracket is the part of Y explained by the changes in X and the second
is the part of Y not explained by X, that is to say the change in Y is due to the random influence
of u i .
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Check yourself whether the following models satisfy the above assumption and give your
answer to your tutor.
a. ln Y ln X U i
2 2
b. Yi X i U i
This means that the value which u may assume in any one period depends on chance; it may be
positive, negative or zero. Every value has a certain probability of being assumed by u in any
particular instance.
3. The mean value of the random variable(U) in any particular period is zero
This means that for each value of x, the random variable(u) may assume various values, some
greater than zero and some smaller than zero, but if we considered all the possible and negative
values of u, for any given value of X, they would have on average value equal to zero. In other
words the positive and negative values of u cancel each other.
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4. The variance of the random variable(U) is constant in each period (The assumption of
homoscedasticity)
For all values of X, the u’s will show the same dispersion around their mean. In Fig.2.c this
assumption is denoted by the fact that the values that u can assume lie with in the same
limits, irrespective of the value of X. For X 1 , u can assume any value with in the range AB;
for X 2 , u can assume any value with in the range CD which is equal to AB and so on.
Graphically;
Mathematically;
Var(U i ) E[U i E(U i )]2 E(U i ) 2 2 (Since E (U i ) 0 ).This constant variance is called
homoscedasticity assumption and the constant variance itself is called homoscedastic variance.
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U i N (0, 2 ) ………………………………………..……2.4
assumption of no autocorrelation)
This means the value which the random term assumed in one period does not depend on the
value which it assumed in any other period.
Algebraically,
Cov(ui u j ) [(ui (ui )][u j (u j )]
E (u i u j ) 0 …………………………..…. (2.5)
6. The X i are a set of fixed values in the hypothetical process of repeated sampling
This means that, in taking large number of samples on Y and X, the X i values are the
same in all samples, but the u i values do differ from sample to sample, and so of course
do the values of yi .
7. The random variable (U) is independent of the explanatory variables.
This means there is no correlation between the random variable and the explanatory
variable. If two variables are unrelated their covariance is zero.
( X iU i )
X i (U i ) , given that the x i are fixed
0.
8. The explanatory variables are measured without error
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U absorbs the influence of omitted variables and possibly errors of measurement in the
y’s. i.e., we will assume that the repressors are error free, while y values may or may not
include errors of measurement.
We can now use the above assumptions to derive the following basic concepts.
Proof:
X i Since (ui ) 0
X i ui ( X i )
2
(u i ) 2
2 (since (u i ) 2 2 )
var(Yi ) 2 ……………………………………….(2.8)
The shape of the distribution of Yi is determined by the shape of the distribution of u i which is
normal by assumption 4. Since and , being constant, they don’t affect the distribution of y i .
Furthermore, the values of the explanatory variable, x i , are a set of fixed values by assumption 5
Yi ~ N( x i , 2 )
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(Since Yi X i U i and Y j X j U j )
Therefore, Cov(Yi ,Y j ) 0 .
The model Yi X i U i is called the true relationship between Y and X because Y and X
represent their respective population value, and and are called the true parameters since
they are estimated from the population value of Y and X But it is difficult to obtain the
population value of Y and X because of technical or economic reasons. So we are forced to take
the sample value of Y and X. The parameters estimated from the sample value of Y and X are
called the estimators of the true parameters and and are symbolized as ˆ and ˆ .
The model Yi ˆ ˆX i ei , is called estimated relationship between Y and X since ˆ and ˆ
are estimated from the sample of Y and X and ei represents the sample counterpart of the
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Estimation of and by least square method (OLS) or classical least square (CLS) involves
finding values for the estimates ˆ and ˆ which will minimize the sum of square of the squared
residuals ( e 2
i ).
e (Y ˆ ˆX )
2
i i i
2
………………………. (2.7)
To find the values of ˆ and ˆ that minimize this sum, we have to partially differentiate e 2
i
with respect to ˆ and ˆ and set the partial derivatives equal to zero.
ei2
1. 2 (Yi ˆ ˆX i ) 0.......... .......... .......... .......... .......... .....( 2.8)
ˆ
ˆ Y ˆX .......... .......... .......... .......... .......... .......... .......... ....( 2.10)
ei2
2. 2 X i (Yi ˆ ˆX ) 0.......... .......... .......... .......... .......... (2.11)
ˆ
Note: at this point that the term in the parenthesis in equation 2.8and 2.11 is the residual,
2 X i ei 0 . It follows that;
e i 0 and X e
i i 0.......... .......... .......... .......... ....( 2.12)
If we rearrange equation (2.11) we obtain;
Equation (2.9) and (2.13) are called the Normal Equations. Substituting the values of ̂ from
(2.10) to (2.13), we get:
Y X i i X i (Y ˆX ) ˆX i2
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Y Xi i Y X i ˆ (X i2 XX i )
XY nXY = ˆ ( X i nX 2)
2
XY nXY
ˆ ………………….(2.14)
X i2 nX 2
( X X )(Y Y ) ( XY XY XY XY )
XY Y X XY nXY
( X X ) 2 X 2 nX 2 (2.16)
Substituting (2.15) and (2.16) in (2.14), we get
( X X )(Y Y )
ˆ
( X X ) 2
The expression in (2.17) to estimate the parameter coefficient is termed is the formula in
deviation form.
3.2.2.2 Estimation of a function with zero intercept
estimate ˆ , the problem is put in a form of restricted minimization problem and then Lagrange
method is applied.
n
We minimize: ei (Yi ˆ ˆX i )
2 2
i 1
Subject to: ˆ 0
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X i (Yi ˆX i ) 0
Yi X i ˆX i 0
2
X i Yi
ˆ ……………………………………..(2.18)
X i2
This formula involves the actual values (observations) of the variables and not their deviation
‘Closeness’ of the estimate to the population parameter is measured by the mean and variance or
standard deviation of the sampling distribution of the estimates of the different econometric
methods. We assume the usual process of repeated sampling i.e. we assume that we get a very
large number of samples each of size ‘n’; we compute the estimates ˆ ’s from each sample, and
for each econometric method and we form their distribution. We next compare the mean
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(expected value) and the variances of these distributions and we choose among the alternative
estimates the one whose distribution is concentrated as close as possible around the population
parameter.
a. Linearity: (for ˆ )
(but xi ( X X ) X nX nX nX 0 )
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x Y xi
ˆ i 2 ; Now, let Ki (i 1,2,..... n)
xi xi2
ˆ K i Y (2.19)
ˆ is linear in Y
Check yourself question:
b. Unbiasedness:
Proposition: ˆ & ˆ are the unbiased estimators of the true parameters &
From your statistics course, you may recall that if ˆ is an estimator of then
E(ˆ) the amount of bias and if ˆ is the unbiased estimator of then bias =0 i.e.
E(ˆ) 0 E(ˆ)
In our case, ˆ & ˆ are estimators of the true parameters & .To show that they are the
unbiased estimators of their respective parameters means to prove that:
k i 0 …………………………………………………………………(2.20)
xi X i ( X X ) Xi
k i X i
xi2 xi2
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X 2 XX X 2 nX 2
1
X 2 nX 2 X 2 nX 2
k i X i 1.......... .......... ......... ……………………………………………(2.21)
ˆ k i ui ˆ k i ui (2.22)
( ˆ ) , since (u i ) 0
̂ 1 n Xk i Yi
̂ is an unbiased estimator of .
ˆ and ˆ possess the smallest sampling variances. For this, we shall first obtain variance of
ˆ and ˆ and then establish that each has the minimum variance in comparison of the variances
of other linear and unbiased estimators obtained by any other econometric methods than OLS.
a. Variance of ˆ
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var( ˆ ) E ( k i u i ) 2
x i xi2 1
k i , and therefore, k 2
2
x i ( x i ) x i
2 i 2 2
2
var( ˆ ) 2 k i2 2 …………………………………………….. (2.26)
x i
b. Variance of ̂
ˆ (2.27)
2
var(ˆ )
1 n Xk i u i2
2
1 n Xk i (ui ) 2
2
2 ( 1 n Xk i ) 2
2 ( 1 n2 2 n Xk i X 2 k i2 )
2 ( 1n X 2 ki2 )
1 X2 x i 1 2
( ) , Since k i 2
2 2
n xi ( x i ) x i
2 2 2
Again:
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1 X2 x 2 nX 2 X 2
2 i
n xi nxi2 nxi
2
X2 X i2
var(ˆ ) 2 1 n 2 2
nx 2
…………………………………………(2.28)
xi i
Dear student! We have computed the variances OLS estimators. Now, it is time to check
whether these variances of OLS estimators do possess minimum variance property compared to
the variances other estimators of the true and , other than ˆ and ˆ .
To establish that ˆ and ˆ possess minimum variance property, we compare their variances
with that of the variances of some other alternative linear and unbiased estimators of and ,
say * and * . Now, we want to prove that any other linear and unbiased estimator of the true
population parameter obtained from any other econometric method has larger variance that that
OLS estimators.
1. Minimum variance of ˆ
Suppose: * an alternative linear and unbiased estimator of and;
where , wi k i ; but: wi k i ci
* wi ( X i ui ) Since Yi X i U i
wi wi X i wi ui
( *) wi wi X i ,since (ui ) 0
Since * is assumed to be an unbiased estimator, then for * is to be an unbiased estimator of
, there must be true that wi 0 and wi X 1 in the above equation.
But, wi k i ci
wi (k i ci ) k i ci
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To prove whether ˆ has minimum variance or not lets compute var( *) to compare with
var( ˆ ) .
var( *) var( wi Yi )
wi var(Yi )
2
ci xi
wi2 k i2 ci2 Since k i ci 0
xi2
Given that ci is an arbitrary constant, c i is a positive i.e it is greater than zero. Thus
2 2
var( *) var( ˆ ) . This proves that ˆ possesses minimum variance property. In the similar
way we can prove that the least square estimate of the constant intercept ( ̂ ) possesses
minimum variance.
2. Minimum Variance of ̂
We take a new estimator * , which we assume to be a linear and unbiased estimator of
function of . The least square estimator ̂ is given by:
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ˆ ( 1n Xki )Yi
By analogy with that the proof of the minimum variance property of ˆ , let’s use the weights wi
= ci + ki Consequently;
* ( 1 n Xwi )Yi
Since we want * to be on unbiased estimator of the true , that is, ( *) , we substitute
* ( 1n Xwi )( X i ui )
X ui
( Xwi XX i wi Xwi ui )
n n n
i.e., if wi 0, and wi X i 1 . These conditions imply that ci 0 and ci X i 0 .
( 1n Xwi ) 2 var(Yi )
2 ( 1n Xwi ) 2
2 ( 1 n 2 X 2 wi 2 1 n Xwi )
2
2 ( n n 2 X 2 wi 2 X wi )
2 1
n
var( *) 2
1
n X 2 wi
2
,Since wi 0
var(*) 2 1
n X 2 (ki2 ci2
1 X2
var( *) 2 2 2 X 2 ci2
n xi
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X i2
2 2 X 2 ci2
nxi
2
The first term in the bracket it var(ˆ ) , hence
ei2
ˆ 2
…………………………………..2.30
n2
u
To use ˆ 2 in the expressions for the variances of ˆ and ˆ , we have to prove whether ˆ 2 is the
e
2
n2
e Yˆ , y, yˆ and ei .
2
To prove this we have to compute i from the expressions of Y,
Proof:
Yi ˆ ˆX i ei
Yˆ ˆ ˆx
Y Yˆ ei ……………………………………………………………(2.31)
ei Yi Yˆ ……………………………………………………………(2.32)
Summing (2.31) will result the following expression
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Y Yˆi
Y Yˆ (2.33)
n n
Putting (2.31) and (2.33) together and subtract
Y Yˆ e
Y Yˆ
(Y Y ) (Yˆ Yˆ ) e
yi yˆ i e ………………………………………………(2.34)
From (2.34):
ei yi yˆ i ………………………………………………..(2.35)
Where the y’s are in deviation form.
From: Yi X i U i
Y X U
We get, by subtraction
yi (Yi Y ) i ( X i X ) (U i U ) xi (U U )
yi x (U U ) …………………………………………………….(2.36)
Note that we assumed earlier that , (u ) 0 , i.e in taking a very large number samples we expect
U to have a mean value of zero, but in any particular single sample U is not necessarily zero.
Similarly: From;
Yˆ ˆ ˆx
Y ˆ ˆx
We get, by subtraction
Yˆ Yˆ ˆ ( X X )
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yˆ ̂x …………………………………………………………….(2.37)
Substituting (2.36) and (2.37) in (2.35) we get
(ui u ) ( ˆi ) xi
The summation over the n sample values of the squares of the residuals over the ‘n’ samples
yields:
(u i ) 2
u i2
n
1
(u i2 ) (u ) 2
n
n 2 1n ((ui2 ) 2ui u j ) i j
n 2 1n n u2 n2 (ui u j )
n u2 u2 ( given (ui u j ) 0)
u2 (n 1) ……………………………………………..(2.39)
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Given that the X’s are fixed in all samples and we know that
1
( ˆ ) 2 var( ˆ ) u2
x 2
x
……………………………………………(2.40)
But from (2.22) , ( ˆ ) k i u i and substitute it in the above expression, we will get:
xi u i
= -2 (xi u i ) xi
,since k i
xi
2
x
2
i
(xi u i ) 2
2
xi
2
xi 2 ui 2 2xi x j ui u j
2
xi
2
x 2 (u i 2 ) 2( xi x j )(u i u j )
2 i j
xi xi
2 2
x 2 (u i )
2
…………………………………………………….(2.41)
Consequently, Equation (2.38) can be written interms of (2.39), (2.40) and (2.41) as follows:
ei2 n 1 u2 2 2 u2 (n 2) u2 ………………………….(2.42)
From which we get
e 2
i E (ˆ u2 ) u2 ………………………………………………..(2.43)
n 2
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ei2
Since ˆ u
2
n2
ei2
The conclusion that we can drive from the above proof is that we can substitute ˆ
2
for
n2
ˆ 2 ei2
Var ( ˆ ) 2 = ……………………………………(2.44)
x i ( n 2) x i 2
X i2 ei X i
2 2
Var (ˆ ) ˆ e
2 2
2 2 ……………………………(2.45) Note:
n(n 2) xi
i
n x i
can be computed as ei 2 y i 2 ̂ xi y i .
Do not worry about the derivation of this expression! we will perform the derivation of it in our
subsequent subtopic.
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below). By fitting the line Yˆ ˆ 0 ˆ1 X we try to obtain the explanation of the variation of the
dependent variable Y produced by the changes of the explanatory variable X.
.Y
Y = e Y Yˆ
= Yˆ Yˆ ˆ 0 ˆ1 X
= Yˆ Y
Y.
X
Figure ‘d’. Actual and estimated values of the dependent variable Y.
As can be seen from fig.(d) above, Y Y represents measures the variation of the sample
observation value of the dependent variable around the mean. However the variation in Y that
can be attributed the influence of X, (i.e. the regression line) is given by the vertical distance
Yˆ Y . The part of the total variation in Y about Y that can’t be attributed to X is equal to
Yi Yˆ ei
predicted Yi
Observed Yi Re sidual
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From equation (2.34) we can have the above equation but in deviation form
y yˆ e . By squaring and summing both sides, we obtain the following expression:
y 2 ( yˆ 2 e) 2
y 2 ( yˆ 2 ei2 2 yei)
yˆe 0 ………………………………………………(2.46)
Therefore;
y i2
yˆ 2 ei2 ………………………………...(2.47)
Total Explained Un exp lained
var iation var iation var ation
OR,
Total sum of Explained sum Re sidual sum
square of square of square
TSS ESS RSS
i.e
TSS ESS RSS ……………………………………….(2.48)
Mathematically; the explained variation as a percentage of the total variation is explained as:
ESS yˆ 2
……………………………………….(2.49)
TSS y 2
From equation (2.37) we have yˆ ˆx . Squaring and summing both sides give us
yˆ 2 ˆ 2 x 2 (2.50)
We can substitute (2.50) in (2.49) and obtain:
ˆ 2 x 2
ESS / TSS …………………………………(2.51)
y 2
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= ( xy )2 / ( x 2 y ). ………….(2.54)
2
Squaring (2.53) will result in: r2
Exercise:
Suppose rxy is the correlation coefficient between Y and X and is give by:
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x i y i
xi2 y i2
And let ry2 yˆ the square of the correlation coefficient between Y and Yˆ , and is given by:
(yyˆ ) 2
ry2 yˆ
y 2 yˆ 2
ˆ 2
var( ˆ ) 2
x
ˆ 2 X 2
var(ˆ )
nx 2
e 2 RSS
ˆ 2
n2 n2
For the purpose of estimation of the parameters the assumption of normality is not used, but we
use this assumption to test the significance of the parameter estimators; because the testing
methods or procedures are based on the assumption of the normality assumption of the
disturbance term. Hence before we discuss on the various testing methods it is important to see
whether the parameters are normally distributed or not.
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We have already assumed that the error term is normally distributed with mean zero and variance
2 , i.e. U i ~ N(0, 2 ) . Similarly, we also proved that Yi ~ N[( x), 2 ] . Now, we want to
show the following:
2
1. ˆ ~ N , 2
x
2 X 2
2. ˆ ~ N ,
nx 2
To show whether ˆ and ˆ are normally distributed or not, we need to make use of one
property of normal distribution. “........ any linear function of a normally distributed variable is
itself normally distributed.”
2 2 X 2
ˆ ~ N , 2 ; ˆ ~ N ,
x nx 2
The OLS estimates ˆ and ˆ are obtained from a sample of observations on Y and X. Since
sampling errors are inevitable in all estimates, it is necessary to apply test of significance in order
to measure the size of the error and determine the degree of confidence in order to measure the
validity of these estimates. This can be done by using various tests. The most common ones are:
i) Standard error test ii) Student’s t-test iii) Confidence interval
All of these testing procedures reach on the same conclusion. Let us now see these testing
methods one by one.
i) Standard error test
This test helps us decide whether the estimates ˆ and ˆ are significantly different from zero,
i.e. whether the sample from which they have been estimated might have come from a
population whose true parameters are zero. 0 and / or 0 .
Formally we test the null hypothesis
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SE( ˆ ) var( ˆ )
SE(ˆ ) var(ˆ )
Second: compare the standard errors with the numerical values of ˆ and ˆ .
Decision rule:
If SE( ˆi ) 1
2 ˆi , accept the null hypothesis and reject the alternative hypothesis. We
If SE( ˆi ) 1
2 ˆi , reject the null hypothesis and accept the alternative hypothesis. We
( ˆ ) 0.6
1
2 ˆ 0.3
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( X X ) 2
sx
n 1
n Sample size
We can derive the t-value of the OLS estimates
ˆi
t ˆ
SE ( ˆ )
with n-k degree of freedom.
ˆ
tˆ
SE(ˆ )
Where:
SE = is standard error
k = number of parameters in the model.
Since we have two parameters in simple linear regression with intercept different from zero, our
degree of freedom is n-2. Like the standard error test we formally test the hypothesis:
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Step 1: Compute t*, which is called the computed value of t, by taking the value of in the null
hypothesis. In our case 0 , then t* becomes:
ˆ 0 ˆ
t*
SE( ˆ ) SE( ˆ )
Step 2: Choose level of significance. Level of significance is the probability of making ‘wrong’
decision, i.e. the probability of rejecting the hypothesis when it is actually true or the probability
of committing a type I error. It is customary in econometric research to choose the 5% or the 1%
level of significance. This means that in making our decision we allow (tolerate) five times out
of a hundred to be ‘wrong’ i.e. reject the hypothesis when it is actually true.
Step 3: Check whether there is one tail test or two tail test. If the inequality sign in the
alternative hypothesis is , then it implies a two tail test and divide the chosen level of
significance by two; decide the critical rejoin or critical value of t called tc. But if the inequality
sign is either > or < then it indicates one tail test and there is no need to divide the chosen level
of significance by two to obtain the critical value of to from the t-table.
Example:
If we have H 0 : i 0
against: H1 : i 0
Then this is a two tail test. If the level of significance is 5%, divide it by two to obtain critical
value of t from the t-table.
Step 4: Obtain critical value of t, called tc at and n-2 degree of freedom for two tail test.
2
Numerical Example:
Suppose that from a sample size n=20 we estimate the following consumption function:
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C 100 0.70 e
(75.5) (0.21)
The values in the brackets are standard errors. We want to test the null hypothesis: H 0 : i 0
b. Since the alternative hypothesis (H1) is stated by inequality sign ( ) ,it is a two tail test,
hence we divide
2 0.05
2 0.025 to obtain the critical value of ‘t’ at
2 =0.025 and 18
degree of freedom (df) i.e. (n-2=20-2). From the
t-table ‘tc’ at 0.025 level of significance and 18 df is 2.10.
Rejection of the null hypothesis doesn’t mean that our estimate ˆ and ˆ is the correct estimate
of the true population parameter and . It simply means that our estimate comes from a
sample drawn from a population whose parameter is different from zero.
In order to define how close the estimate to the true parameter, we must construct confidence
interval for the true parameter, in other words we must establish limiting values around the
estimate with in which the true parameter is expected to lie within a certain “degree of
confidence”. In this respect we say that with a given probability the population parameter will
be with in the defined confidence interval (confidence limits).
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In a two-tail test at level of significance, the probability of obtaining the specific t-value either
–tc or tc is
2 at n-2 degree of freedom. The probability of obtaining any value of t which is
ˆ
equal to at n-2 degree of freedom is 1 2 2 i.e. 1 .
ˆ
SE ( )
ˆ
but t* …………………………………………………….(2.58)
SE( ˆ )
ˆ
Pr t c t c 1 ………………………………………..(2.59)
SE( ˆ )
Pr SE(ˆ )t c ˆ SE(ˆ )t c 1 by multiplying SE(ˆ )
The limit within which the true lies at (1 )% degree of confidence is:
Decision rule: If the hypothesized value of in the null hypothesis is within the confidence
interval, accept H0 and reject H1. The implication is that ˆ is statistically insignificant; while if
the hypothesized value of in the null hypothesis is outside the limit, reject H0 and accept H1.
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Y 128.5 2.88 X e
(38.2) (0.85)
The values in the bracket are standard errors.
a. Construct 95% confidence interval for the slope of parameter
b. Test the significance of the slope parameter using constructed confidence interval.
Solution:
a. The limit within which the true lies at 95% confidence interval is:
ˆ SE( ˆ )t c
ˆ 2.88
SE ( ˆ ) 0.85
the parameter estimates are the standard errors. Some econometricians report the t-values of the
estimated coefficients in place of the standard errors.
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