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3. Explain intuitively why weighted least squares estimators (WLS) have a smaller
variance than the typical OLS estimators, in a model for cross-sectional data where
the homoskedasticity assumption fails.
4. Consider a multiple linear regression model for cross-sectional data that analyses the
impact of trade barriers on national income of countries around the world. Among
other regressors, you include dummies for Africa, Europe and Asia (that equal one
if the country is, respectively, in Africa, Europe and Asia and zero otherwise). Also,
you include a constant in the model. What conditions must you impose in your
sample so that the Absence of Multicollinearity assumption is not violated (due to
the inclusion of the dummies) in the model?
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6. "As it happens with cross-sectional data, we can always assume random sampling
in time series analysis". Is this statement true? Explain.
7. What can go wrong in a regression model if the errors follow an AR(1) process?
What can you do to solve the problem, and under what conditions can you do it?
If you can’t solve the problem, how can you conduct valid inference?
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Group II (8 points)
1. You have been commissioned to perform a study about the impact of the BSE crises
on the beef price in Portugal. You have annual data for the years 1970 through
2007 on the following variables:
(a) Interpret each of the coefficient estimates β̂ 1 , β̂ 2 and β̂ 3 . Do they have the
expected signs? (0,5 points)
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(b) Test if there is a shift in the beef price after the BSE crises at a 5% significant
level. State the null and alternative hypotheses and show how you calculate
the required test statistic. State the decision rule you use, and the inference
you would draw from the test.(0,5 points)
(c) The DW statistic from your regression is DW = 0.55. What can you conclude
in terms of serial correlation? (1 point)
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(d) Imagine your model had the variable pricet−1 as an explanatory variable. Does
it change your conclusions from the DW statistic? Why? (1 point)
When discussing your results with your research assistant, he reminds you
about the importance of including a trend in your model. After including it
in your model, the only variable that is statistically significant is the trend.
(e) What can be happening in your initial model? Does it affect your conclusions
about the impact of BSE on prices? (1 point)
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2. Consider the following model, where wage is the salary of a CEO, educ is the
number of years of education and exper is the number of years of experience.
(a) What is the percentage change in wage, on average, given a caeteris paribus
unit increase in exper ? Express your answer in terms of the equation parame-
ters. (0,5 points)
Using a random sample of 523 individuals, the following results were obtained:
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(b) Is the quadratic term significant at 1% level? Formalise your answer, stating
the null and alternative hypotheses and show how you calculate the required
test statistic. State the decision rule you use, and the inference you draw from
the test. (0,5 points)
(c) Forecast the average wage of a CEO with 16 years of education and 10 years
of experience. Explain how you would proceed to obtain a standard error for
your forecast based on a confidence interval of 95%. (1 point)
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Additionally, the following output was obtained, using the residuals from the
model estimation:
(e) How does your answer in question (2d) interfere with your answer in questions
(2b) and (2c)? Explain using no more than 5 lines of text. (1 point)
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where ut follows an MA(2) process, that is, ut = et + ρ1 et−1 + ρ2 et−2 where {et } is
an i.i.d. sequence with mean 0 and variance σ 2e , uncorrelated with the regressors.
(a) What assumption for time series models is necessarily violated in this model?
(0,5 points)
(b) What is the mean and variance of ut (Look only at the unconditional mean
and variance, E[ut ]and V ar[ut ])? (0,5 points)
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(d) Suppose now that ut = et + ρ1 et−1 + ρ12 et−12 where {et } is an i.i.d. sequence
with mean 0 and variance σ 2e .Derive the autocorrelation function of the process
{ut } for all integers k ≥ 1.(if you did not answer to part b), it is enough to
derive Cov(ut , ut−k ) for all integers k ≥ 1). (1 point)
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