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‡ Econometrics means ³economic measurement´
‡   
±       


 
   
 
‡ Econometrics attempts
± to quantify economic reality &
± to bridge the gap between economic theory & the real world.
‡ Econometrics consists of the development & application
of statistical, mathematical & economic hypothesis that
use empirical evidence for estimating the economic
relationship, testing the validity of economic theories or
evaluating government policy.
 "   !
‡ Economic theory makes statement or hypotheses
± Theories do not provide
‡ the necessary measure of strength of relationship
(numerical estimate of the relationship) &
‡ the proper functional relationship between variables.
± Example: Law of Demand
‡ A reduction in price of a commodity is expected to increase
the quantity demanded of that commodity.
‡ to provide empirical verification of theories
 | #$    
‡ Formulation of econometrics models for
± estimating the economic relationship,
± testing the validity of economic theories or hypothesis
± evaluating government policy
‡ Use the models for
± prediction, forecasting
± assess impacts of certain decisions & policy
recommendation
    $    
‡ An     is a set of assumptions that
approximately describes the behaviour of an
economy
± Example, Law of Demand
‡ An     consists of the following:
i. A set of behavioural equations derived from the
economic model
ii. A statement of whether there are errors of
observation in the observed variables
iii. A specification of the probability distribution of
the ³disturbances´
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‡ To report
± the signs of the estimated coefficients in an
econometric model
± the significance test of each variables / regression
‡ To confirm economic theories
± whether the estimated coefficients carried the
expected sign
± the statistically significance of the variables
± The fitness of the model
    %    
„. Statement of theory or hypothesis
2. Specification of the mathematical
model of the theory
3. Specification of the statistical, or
econometric model
4. Obtaining the data
   %    & '
. Estimation of the parameters of the
econometric model
6. Hypothesis Testing
7. Forecasting and prediction
8. Using the model for control or policy
purpose
(   


‡ Consumption Theory
± When disposable income increase,
consumption will also increase and vice versa
± Marginal propensity to consume (MPC)
‡ Positive relationship between consumption &
income
(
  
   
C = u o Yd 0< <„

where C = consumption
Yd = income
= Marginal propensity to consume
 :(
  
   
C = u o Yd o

where
, known as disturbance, error term or

residual, is a random variable
 Ë( %
‡ Collect disposable income & consumption
data.
‡ Should we collect time series data, cross
sectional data or pooled data?
‡ 3 types of data:
± Time Series Data
± Cross Sectional Data
± Panel Data (Pooled Data)
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‡ Time series data is a set of observations on
the values that a variable takes at different
times.
‡ Such data may be collected at regular time
intervals (e.g., daily, weekly, monthly,
quarterly, annually)
‡ Example: Consumption and disposable
income for Malaysia from „ 0-„ 2
 |

Year C Yd

„ 0 60 „30

„ „ 64 „38

„ 2 68 „48
   

‡ Cross Sectional data are data collected on
the same point in time.
‡ Example: Consumption and disposable
income of different Asia countries in „ 0
   

Country C Yd

Malaysia 60 „30

Indonesia 82 „20

Thailand 7 „00

Singapore „00 230

 „

‡ Panel data (Pooled data) are elements of
both cross sectional and time series data.
‡ Example Consumption and disposable
income among Asian Countries for the
period of „ 0-„ 2
 „

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‡ The numerical estimates of the parameters give
empirical content



„84 ' 0.706 

‡ MPC = 0.7
‡ Is this model valid or correct?
 Ò()
|%
‡ Confirmation or refutation of economic
theories on the basis of sample evidence
‡ C = u o Yd


„84 ' 0.706 

‡ Autonomous consumption > 0

H0: u = 0 H„: u > 0
‡ 0 < MPC < „
H0: = 0 H„: > 0 or H2: <„
 V(* % „ 
‡ If the chosen model does not refute the
hypothesis or theory, we may use it to
predict the value(s) of the dependent
variable
± values of the explanatory variable was known

„ 7 „84 ' 0.706(726 )
m(     
„ „"

‡ An estimated model may be used for
control, or policy, purposes
‡ By appropriate fiscal and monetary policy
mix, the government can manipulate the
control variable Yd to produce the desired
level of the target variable C
ß      %
Economic theory
Mathematical model of theory
Econometric model of theory

Data
Estimation of econometric model

Hypothesis testing
Forecasting or prediction

Using the model for

control or policy purposes