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by Justin Doran, Jane Bourke, and Ann Kirby

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Length: 100 pages1 hour

Applied econometric analysis is used across many disciplines and in many branches of economics. Increasingly, data is becoming more readily available and software has become more powerful, enabling the analysis of numerous economic phenomenon. The aim of this ebook is to guide the student through applied econometric examples, using real world data. The focus is on using statistical software, in this case Stata, to perform analysis rather than on econometric theory. The topics explored in this ebook are as follows: initially, the linear regression model is explored and concepts such as coefficients, F-tests and t-tests, and the R2 value are covered. Following from this, some of the most common problems that occur in regression analysis are explored, including the following breaches of the assumptions of the classical linear regression model: multicollinearity, heteroscedasticity and autocorrelation. Topics in time series analysis are also touched upon, including tests for stationarity. Finally, we consider binary dependent variables. This text builds upon the Survey & Questionnaire Design: Collecting Primary Data to Answer Research Questions ebook by Kirby, Bourke & Doran (2016). In that ebook, the methods of primary data collection are discussed, as is how to develop a research question. This ebook builds upon this foundation by showing students how to apply econometric techniques to analyse data that they have collected themselves or sourced from secondary data sources. The text uses the Stata software package. A primer for Stata is presented in Appendix 4 and the companion website (www.justindoran.ie) contains a number of videos that provide a gentle introduction to Stata.

Publisher: NuBooksReleased: Sep 10, 2017ISBN: 9781846211911Format: book

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Applied econometric analysis is used across many disciplines and in many branches of economics, from studies of macroeconomic models such as the Solow or endogenous growth theory to microeconomic theories of consumer preference. Increasingly, data is becoming more readily available and software has become more powerful, enabling the analysis of numerous economic phenomenon. The aim of this ebook is to guide the student through applied econometric examples, using real world data. The focus is on using statistical software, in this case Stata, to perform analysis rather than on econometric theory.

The topics explored in this ebook are as follows: initially, the linear regression model is explored and concepts such as coefficients, F-tests and t-tests, and the *R² *value are covered. Following from this, some of the most common problems that occur in regression analysis are explored, including the following breaches of the assumptions of the classical linear regression model: multicollinearity, heteroscedasticity and autocorrelation. Topics in time series analysis are also touched upon, including tests for stationarity. Finally, we consider binary dependent variables.

This text builds upon the ** Survey & Questionnaire Design: Collecting Primary Data to Answer Research Questions ebook **by Kirby, Bourke & Doran (2016). In that ebook, the methods of primary data collection are discussed, as is how to develop a research question. This ebook builds upon this foundation by showing students how to apply econometric techniques to analyse data that they have collected themselves or sourced from secondary data sources.

The text uses the Stata software package. A primer for Stata is presented in **Appendix 4 **and the companion website (**www.justindoran.ie/ebook.html) contains: **

Videos that provide a gentle introduction to Stata

The datasets used throughout this book

*Do *files for Stata that replicate the analysis conducted in each chapter.

After reading this chapter, you will be able to:

In this chapter we introduce the basics of the linear regression model. We will learn about dependent and independent variables, constant and slope coefficients, and how to estimate a regression model in Stata.

**The Classical Linear Regression Model **

We begin by considering the classical linear regression model, starting with what is referred to as a simple regression model. In this type of model, we have two variables:

A dependent variable

An independent variable.

The *dependent variable *can be thought of as depending on the *independent variable *whereas the *independent variable *is independent of all other variables (it does not depend on any other variable).

As a starting point, let us consider Keynes’ consumption function. At its simplest, this notes that consumption depends on income. The more income someone has, the more they will consume. This suggests that consumption **depends on **income. Therefore, consumption is our *dependent variable*. Income, on the other hand, does not depend on consumption – the amount we consume does not determine our income. Therefore, as income does not depend on consumption, it is **independent of **consumption. Income is our *independent variable*. We can note the following:

*C = f*(*I*) **1 **

where *C *represents consumption, *I *represents income, and *f *indicates some function.

In this case, consumption is a function of income – the more income we have, the more we consume. This is a function, not a regression model. In order to represent this relationship as a regression model, we assume that consumption is a linear function of income – a linear regression model. This is built upon the equation of a line, where we will have a *constant *and a *slope*. This can be written as follows:

*C *= *β*0 + *β*1*I *+ *ε ***2 **

where *C *and *I *are defined as before but we now have three new terms:

*β*0 is referred to as the constant term. It is the value of *C *when *I *is zero – the amount we consume when we have no income. As well as being referred to as the constant term, this is sometimes also called the *intercept *as it is the point where the linear regression line intercepts the Y axis (we are at zero on the X axis).

*β*1 is the slope coefficient. This shows the impact of a one unit change in *I *on *C. β*1 can be positive (as *I *goes up, *C *goes up), negative (as *I *goes up, *C *goes down) or zero (as *I *changes, *C *does not change).

*ε *is the final component – the error term. It is included here for completeness but we will return to it later to explain it in more detail.

We now consider one further addition to our simple equation. We can perform a number of types of analysis in econometrics, including:

**Cross sectional analysis: **An analysis of a group of units at one point in time.

**Time series analysis: **An analysis of a single unit over time.

**Panel analysis: **An analysis of a group of units over time, where units can be individuals, firms, regions, countries, etc. Units are typically denoted using the subscript *i*, while time periods are typically denoted using the sub-period *t*.

Therefore, the consumption function for a group of individuals at one point in time could be represented as:

*Ci *= *β*0 + *β*1*Ii *+ *εi ***3 **

and the consumption function for a single country over time could be represented as:

*Ct *= *β*0 + *β*1*It *+ *εt ***4 **

while the consumption function for a group of individuals (or countries) over time (panel data) could be represented as:

*Cit *= *β*0 + *β*1*Iit *+ *εit ***5 **

Typically, *i *is said to represent units 1 to *N *where *N *is the final unit, while *t *is said to represent time period 1 to *T*, where *T *is the final time period.

**Estimating the Classical Linear Regression Model **

We now discuss the estimation of the consumption function for using real world data. The estimation method used is the method of Ordinary Least Squares (OLS). This is a method of estimating the linear regression model that minimises the sum of the squared errors of the regression. We use data from the Central Statistics Office of Ireland on national consumption and income to explain how we can use OLS to estimate the classical linear regression model.

Let us begin by loading this data into Stata. This can be accomplished through the use of the following command which will import the data in **chapter_2.xlsx **directly to Stata from **www.justindoran.ie/ebook.html: **

**http://www.justindoran.ie/uploads/6/9/6/0/6960312/chapter_2_e1.dta **

The first thing we do is to generate two new variables, which

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