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y 0 1 x u
(2.1)
y 0 1 x u
(2.1)
taste 0 1cookingtime u
(ie)
y 1x if u 0
(2.2)
y 0 1 x u
(2.1)
E (u) 0
(2.5)
E (u | x) E (u ) 0
(2.6)
2.1 Example
Papermark 0 1Paperquality u
(ie)
E (y | x) 0 1x
(2.8)
yi 0 1x i u i
(2.9)
E (u) 0
(2.10)
Cov ( x, u ) E ( xu ) 0
(2.11)
E (y - 0 - 1x) 0
E[ x(y - 0 - 1x)] 0
(2.12)
(2.13)
(2.14)
i
o
1 i
n i 1
1
n
- x ) 0
x
(y
i i o 1i
(2.15)
i 1
-notice that the hat above B1 and B2 indicate we are now dealing with estimates
-this is an example of method of moments estimation (see Section C for a
discussion)
y 0 1 x
(2.16)
0 y 1 x
(2.17)
x) x ] 0
x
[
y
(
y
i i
1
1
i 1
i 1
i 1
x
(
y
y
)
i i
1 xi ( xi x )
x [ x x] [ x x]
i 1
i 1
And
n
x [y
i 1
y ] [ xi x][ yi y ]
i 1
[ x x]
i 1
(2.18)
[ x x][ y
i
i 1
[ x x]
i 1
y]
(2.19)
2
Note that assumption (2.18) basically ensured the denominator is not zero.
-also note that if x and y are positively (negatively) correlated, B1hat will
be positive (negative)
yi 0 1x i
(2.20)
2.2 Residuals
ui yi y i yi 0 1x i
(2.21)
2.2 Residuals
ui ( yi 0 1x i )
2
(2.22)
i 1
-if B1hat and B2hat are chosen to minimize (2.22), (2.14) and (2.15) are our FIRST ORDER
CONDITIONS (FOCS) and we are able to derive the same OLS estimates as above (2.17)
and (2.19)
-the term OLS comes from the fact that the square of the residuals is minimized
y 0 1x
(2.23)
1 y/x
(2.24)
y 1x
(2.25)
u=y-yhat
Here yhat underpredicts y
uhat
yhat
u
i 1
(2.30)
x u
i 1
i i
(2.31)
y 0 1 x
(2.16)
y y
yi y i ui
(2.32)
SSE (y i - y)
(2.34)
i 1
n
SSR (y i - y i ) 2
i 1
(
u
)
i
i 1
(2.35)
(2.36)
2
2
(y
y
)
[(y
y
)
(
y
y
)]
i
i i
i
[(ui ) ( y i y )]2
2
2
(ui ) 2 u i (yi y ) ( yi y )]
SSR 2 u i (y i y ) SSE
2 u i (yi y ) 0
(2.37)
SSE
SSR
R
1SST
SST
2
(2.38)