An Introduction to Applied Econometric Analysis

253 Pages·1974·23.491 MB·English

by  R. F. Wynn, K. Holden (auth.)

AN INTRODUCTION TO APPLIED ECONOMETRIC ANALYSIS
AN INTRODUCTION TO APPLIED
ECONOMETRIC ANALYSIS
R. F. WYNN K. HOLDEN
AND
M
© R. F. Wynn and K. Holden 1974
Softcoverreprint ofthe hardcoverIst edition 1974
All rights reserved. No part of this publication may be reproduced or transrnitted, in
any form or by any means, without perrnission.
First published 1974 by
THE MACMILLAN PRESS L TD
London and Basingstoke
Associated companies in New York Dub/in
Melbourne Johannesburg and Madras
SBN 333 16711 2 (hard cover)
333 16712 0 (paper cover)
ISBN 978-0-333-16712-0 ISBN 978-1-349-15548-4 (eBook)
DOI 10.1007/978-1-349-15548-4
The paperhack edition of this book is sold subject to the condition
that it shall not, by way of trade or otherwise, be lent, re-sold,
hired out, or otherwise circulated without the publisher's prior
consent in any form of binding or cover other than that in which
it is published and without a sirnilar condition including this
condition being imposed on the subsequent purchaser.
To A. and J.
Contents
Preface ix
1 INTRODUCTION 1
1.1 The objectives and methods of applied econometrics 1
1.2 The presentation and interpretation of basic regression results 4
1.3 The interpretation and use of the results of elementary econo-
metric analysis 8
1.4 Further reading 19
1.5 References 21
2 INVESTMENT 22
2.1 Introduction 22
2.2 Replacement investment 23
2.3 Desired capital stock 25
2.4 The distributed lag function w(L) 28
2.5 Aggregate investment functions 33
2.6 Micro-level investment functions 40
2.7 Further reading 44
2.8 References 45
3 THE PRODUCTION FUNCTION 47
3.1 The theory of production 47
3.2 The Cobb-Douglas and C. E. S. production functions 52
3.3 Data problems and aggregation 57
3.4 Empirical estimation 62
3.5 Empirical evidence 65
3.6 Further reading 71
3.7 References 73
4 WAGE-PRICE MODELS 75
4.1 The wage-change equation 75
4.2 The effects of different labour markets 81
4.3 The empirical estimation of Phillips curves 84
viii An Introduction to Applied Econometric Analysis
4.4 Wage-price systems 94
4.5 Empirical estimation of the wage-price systems 97
4.6 Further reading 100
4.7 References 103
5 MACRO-ECONOMIC MODELS I: THE SPECIFICATION
PROBLEM AND RELATED ISSUES 105
5.1 Introduction 105
5.2 The aggregation problem III
5.3 Estimation and other aspects of statistical inference 114
5.4 A comparative review of different models: some introductory
remarks 120
5.5 Klein III 131
5.6 Klein-Goldberger II 135
5.7 Canadian model IX 141
5.8 The Dutch forecasting and policy model 148
5.9 The Michigan RSQE model 152
5.10 The Wharton EFU model 156
5.11 The Brookings model 163
5.12 Further reading 169
5.13 References 172
6 MACRO-ECONOMIC MODELS II: THE PREPARATION
AND ANALYSIS OF FORECASTS 176
6.1 Introduction 176
6.2 Forecasting and the analysis of forecast performance 178
6.3 Multiplier analysis and the properties of dynamic models 193
6.4 Forecasting and forecast performance in practice 201
6.5 Multipliers and dynamic properties in practice 213
6.6 Further reading 231
6.7 References 233
Author Index 239
Subject Index 242
Preface
Our principal aim in writing this book has been to help meet the growing need
for an introduction to applied econometrics at the advanced undergraduate
level. In particular, we believe that undergraduates derive more benefit from
a course in econometric methods if it is supported by discussion of how these
methods relate to applied work and thereby to other fields of economic science.
Furthermore, an early introduction to applied econometrics has the additional
advantages, through encouraging the use of computer and library facilities, of
fostering research interests and skills and of bringing the student closer to the
current literature in at least some areas of economics. It is also hoped that our
efforts may help postgraduates and others who are not intending to specialise
in econometrics but who nevertheless need to make use ofe conometric methods
in their research.
Given these objectives we have in no way attempted to give a comprehensive
account of any particular aspect of applied econometric analysis, nor have we
attempted a review of the literature in any particular field of applied econo
metric research. Rather we have concentrated on presenting an account of
what is involved in expressing economic theory in the form of an econometric
model, in testing models against observation and in preparing and analysing
forecasts. Only four areas of applied econometrics have been referred to in
order to illustrate these matters. This has meant that many special points of
interest relating to other topics have been omitted, but we believe these four
areas are sufficiently distinctive to provide a basis for an introduction to the
subject. The problems and limitations of dealing with data and of assessing em
pirical results are discussed, and the student is encouraged to consult the litera
ture for himself through a guide to further reading at the end of each chapter.
We assume a knowledge of at least elementary economic theory, statistics,
algebra and calculus, and that the reader has taken, or is taking, an intro
ductory course in econometric methods. A knowledge of the basic matrix
operations (addition, multiplication and inversion) and of determinants is
desirable for certain topics. Despite these prerequisites, however, we believe
that there is some value in reviewing in an introductory chapter those econo
metric methods that are almost universally used in applied work. In Chapter 1
we have therefore summarised the way in which regression and econometric
results are used in hypothesis testing and prediction, and also the usual tests
of the assumptions of the classical linear regression model. Problems that
arise in the use of certain kinds of data or models are pointed out where
necessary in the chapters that follow.
x An Introduction to Applied Econometric Analysis
The chapters dealing with investment, the production function and wage
price models share a common approach. In each case theory relating to the
specification of alternative models is reviewed together with ways in which
these models might be tested. This is followed by examples of published
empirical results. The final two chapters consider macro-economic models.
In dealing with the specification of such models, selected references to seven
published studies are used to illustrate the way in which the structure and
scope of these models have been adapted to serve different purposes, and, in
particular, the need for a more comprehensive treatment of macro-economic
systems. The second of the chapters on macro-economic models is a review
of matters relating to the preparation of forecasts from an econometric model,
the theoretical and practical attractions of different ways of evaluating fore
casts and the preparation and analysis of multipliers. Again a limited selection
of published work is reviewed.
Although all six chapters have been much improved as a result of the
suggestions and reactions of both co-authors, R. F. Wynn was responsible
for the preparation of Chapters 1, 5 and 6 and K. Holden for Chapters 2, 3
and 4. The final draft of the book remains our responsibility alone of course
and yet we must express our gratitude to all those who have given us the benefit
of their advice in the various stages of preparation, especially R. W. Latham,
D. A. Peel, P. J. M. Stoney and A. E. Woodfield. We should also like to thank
those whose skill and patience has turned our handwritten material into type
script, particularly Mrs A. Burgess and Mrs D. Lewis. Finally the permission
of the following publishers to reprint the tables specified is gratefullyacknow
ledged: Centro de Economia e Finan~as, Lisbon (Tables 6.1 and 6.5); the
editors of the American Economic Review (Table 6.2); the Economics Research
Unit, Wharton School of Finance and Commerce, University of Pennsylvania
(Table 6.4); the editors of the Review ofE conomic Studies (Tables 6.6 and 6.7);
and the Brookings Institution (Table 6.8).
April 1974 R. F. WYNN
K. HOLDEN
1. Introduction
1.1 THE OBJECTIVES AND METHODS OF APPLIED
ECONOMETRICS
Broadly speaking econometric analysis can be said to be concerned with
developing means by which hypotheses about economic systems can be tested
with reference to observation. One of the first objectives of this kind of study
must therefore be the specification of a model which it is believed adequately
represents the relationship between a given set of variables. Given the quanti
tative nature of information about these variables, the model may conveniently
be expressed as a mathematical function, the simplest example of which can
be found in the familiar regression model
(1.1)
in which the dependent variable Y is shown to be a linear function of a single
independent variable (or explanatory variable or regressor) X and a random
or stochastic variable u. The subscript i refers to a particular observation on
Xand Y.
The simplicity of (1.1) rests on three features: its linearity, the appearance
of only two variables in the exact or non-stochastic part of the function and the
use of only one relationship relating Y and X. These are restrictions which
can, however, be relaxed to some extent to cope with some of the demands of a
more complex reality and yet retain the convenience of the linear character of
(1.1). Thus the addition of further independent variables on the right hand side
requires only a generalisation of regression methods applicable to (1.1) while
the linearity assumption itself can be modified somewhat by allowing variables
like X to represent other variables such as zn, l!zm, Z~!Zr; or In Z so that the
model is no longer linear in variables, providing it remains linear in parameters
and providing the way in which the disturbance term is incorporated in the
model also conforms to this principle, which means, for example, that the
disturbance in
(1.2)
has to be multiplicative for it to be additive in the linear equivalent of (1.2)
In Y=lncx+plnX+lnu (1.3)
In addition, a model may consist of more than one equation which is linear in