Econometrics Project

Professor: Daniela erban Student: Semcu Group 135, B

Alexandru Series

January, 2012

Academy of Economic Studies Faculty of Business Administration

Income Distribution in Romania Level of Poverty
Chapter I Introduction In Romania, the poverty is not an unknown issue. The phenomenon of poverty is present in every society, even in the most developed ones. The income distribution is a result of economic development and of a large set of economic and social policies concerning employment, wages, taxes, social protection and social inclusion, regional and local development, economic restructuring and, for long term, education. At the same time, it is obvious and largely recognized that a fair income distribution is an important factor of economic and social development. Of course a certain inequality, especially of earnings and property income, is necessary in order to reward the efficient work and management, innovation, saving and investing propensity, risk taking, higher education, and talent. However, high income inequality and polarization is harmful for social cohesion, being a source of social tension and conflict. As Amartya Sen asserts in his famous bookOn Economic Inequality,the relation between inequality and rebellion is indeed a close one, and it runs both ways. Inequality is painful for those at the bottom of income distribution. For them it means poverty and social exclusion, great difficulties to meet basic needs, to sustain education of children and to provide for a good health, with long term implications on human and economic development. A deep and extended poverty can be a limiting factor for the mass consumption demand also, and for national production, consequently. More poor require more public expenditure for their support and that can be covered by rising taxes, by burdening business and working people, with disincentive effect on economic activity. The framework for analysis and solution of poverty and social exclusion in Romania acquires a new dimension, because of its integration in the EU. Therefore, the question is not confined to resolving the problems of poverty and social exclusion, but also aims at Romanias enlistment, along with other European societies, in a process of sustainable and successful social development. The Romanian society is not traditionally poor. It is a society impoverished after an ambitious process of rapid industrialization was launched, followed by a functional disorder - a result of changing economic and social operational rules. Unlike Western countries, poverty in Romania is not the negative marginal result of a prosperous economy, but the result of the global economic crisis. In a time where much of the population lives in poverty, its recognition is not sufficient. Economic recovery plays its role in combating the phenomenon of poverty, but does not respond to all types of problems associated with the state of poverty. Poverty cannot be counteracted in the short term and not even its formulation as a priority at the social level is effective.

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The measurement and the analysis of income inequality, knowing its dimensions and tendencies, causes and effects may offer important benchmarks for the evaluation of social progress, and for setting up social and economic policies, including policies aimed to mitigate social consequences of the economic crisis. The purpose of this project is to provide an econometric analysis of a set of variables that are relevant to the concept of income distribution and of poverty. In order to do this, I carried out a survey on a sample of 70 respondents, done with the objective of analyzing the respondents living standards, their satisfaction with the evolution of their living standards and what they predict for the future, regarding their standard of living. Chapter II Analysis of Econometric Variables 1. Significance Tests used in Hypothesis Testing Method used: One proportion z-test Assumption: I want to test whether 30% of the people are financially supported by other persons. Based on the sample results presented below in Table 1, I want to verify whether I can conclude with a level of 95% confidence that the percent of people granted financial support by other is higher than 30%. The test was based on the data gathered from the sample of 70 respondents.
I. Method of financing Employed Scholarship Occasional gains Financial support from others Pensioner Total Number of persons 24 8 9 23 6 70
Table 1

Hypothesis Testing to the Right: Step 1: We determine the null hypothesis and alternative hypothesis. H0: P=30% The null hypothesis states that the percent of people getting financial support is 30%. H1: P>30% The alternative hypothesis states, based on our model, that the percentage of people being financially supported by others in higher than 30%. Step 2: Establish the significance level =0.05 (5%), and the confidence level 95%, so the probability to guarantee the results being of 95%. Step 3: We determine acceptance region (AR) and the rejection region (RR). For a significance level of 0.05, the critical value defining the critical region is 1.645. (z0.05= 1.645) AR= ( RR= (1.645;

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Step 4: Zcalculated according to this type of test, using the following formula:

Where: p sample = the estimated percent from our sample; p = the value assumed; s= variance; n = the sample size. In order to determine our p sample, we will compute it according to our Table 1. So, we will have the following equation: = 0.3285 = 32.85%

Therefore, n = 70

= 30

(100-30) so that

= 30

70 = 2100 (statistical z)

In conclusion,

Step 5: In order to determine in which area (rejection area or acceptance area) statistical z belongs to, we compare it with z critical, as follows: 0.52<1.654 => Z statistical < Z0.05 In conclusion we are in the acceptance area (AR). Step 6: Decision on H0. In this case we cannot reject the null hypothesis, with a 95% confidence level. Step 7: The answer of the assumption: the sample results strongly sustain our assumption. In conclusion, we can state with a 95% level of confidence that the percent of people receiving financial support from others is 30%. Thus, there is a possibility of 5% of being wrong.

II. Method used: One proportion z-test Assumption: Test, based on the sample findings shown in Table 2, that 20% of respondents never borrowed money. Frequency of borrowing Never Rarely Frequently Number of population 23 31 16

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Total

70
Table 2

Hypothesis Testing to Both Sides: Step 1: We determine the null hypothesis and alternative hypothesis. H0: P=20% The null hypothesis states that the percent of people that never borrowed money is 20%. H1: P20% The alternative hypothesis states, based on our model, that the percentage of people never borrowing money from any source is different from 20. Step 2: Establish the significance level =0.05 (5%), and the confidence level 95%, so the probability to guarantee the results being of 95%. Step 3: We determine acceptance region (AR) and the rejection region (RR). For a significance level of 0.05, the critical value defining the critical region is . (z0.05= ) RR= ( AR= [-1.96; Step 4: Zcalculated according to this type of test, using the following formula:

Where: p sample = the estimated percent from our sample; p = the value assumed; s= variance; n = the sample size. In order to determine our p sample, we will compute it according to our Table 2. So, we will have the following equation: = 0.3285 = 32.85%

Therefore, n = 70

= 20

(100-20) so that

= 20

80 = 1600 (statistical z)

In conclusion,

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Step 5: In order to determine in which area (rejection area or acceptance area) statistical z belongs to, we compare it with z critical, as follows: 2.78 > 1.96 => Z statistical > Z0.05 In conclusion we are in the rejection region (RR). Step 6: Decision on H0. In this case we reject the null hypothesis, with a 95% confidence level. Step 7: The answer of the assumption: the sample results do not sustain our assumption. In conclusion, we can state with a 95% level of confidence that the percent of people that never borrowed money from any source is different from 20%. Thus, there is a possibility of 5% to be wrong in this decision. 2. Simple Regression Analysis
I. Method used: Simple linear regression model Assumption: Analyze the relationship between the monthly income of households and the number of household members. The relationship is a medium intensity relation. The list of variables includes the number of persons in household and the monthly income of a household. We would like to know whether the variation of monthly income is determined by the variation in number of household members. Regression statistics and ANOVA table: Regression Statistics Multiple R R Square Adjusted R Square Standard Error Observations 0.863089738 0.744923896 0.74111679 268.6403029 69

ANOVA df Regression Residual Total 1 67 68 SS 14120798.96 4835230.026 18956028.99 MS 14120799 72167.61 F 195.6667 Significance F 1.48776E-21

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Intercept 2

Coefficient s 2035.8149 33 376.21295 76

Standard Error 85.4805143 4 26.8952312 6

t Stat 23.816 13 13.988 1

Pvalue 2.04E34 1.49E21

Lower 95% 1865.1951 14 429.89606 32

Upper 95% 2206.4 35 322.53

Lower 95.0% 1865.1 95 429.89 6

Upper 95.0% 2206.4 35 322.53

Dependent variable (regressant): Monthly Income (Y) Independent variable (regressor): Household Size (X) Because R2 is higher than 50% we will continue to analyze the model. The Monthly Income is explained by the number of persons in a household. So, we can determine the regressor, which is Household Size. On the basis of our sample result, we can state the regression model: Monthly Income = Intercept + Regression Coefficient (Slope) Household Size With other words: Y = 2035.8 376.2 X According to the scatter diagram, displayed in annex 2, we can state that there is an opposite or negative relation due to the negative slope. Also, this is a linear relation due to the linear shape of scatter diagram points. There is a medium intensity of relation due to the fact that points are not extremely gathered and it is also an inelastic relation due to the fact that the slope is almost 450. There is a negative relationship between the household monthly income and the number of persons in the household. As a result, the increase in number of household members determines a decrease in the monthly income, and vice versa. This relation is determined by the sign of the slope. Its value tells us that an increase in the household size by one person determines a decrease in monthly income by 376.2 RON. In order to verify the statistical validity of the test, we will perform the Analysis of Variance (ANOVA) method applying Fischer Test (F Test) in order to determine if the model is fitting and the coefficient of determination, R2 together the ratio of correlation with further developed to analyze the intensity of correlation. Characterize the regression model Multiple R = 0.863089738 Multiple R tends to 1 which determine a very high level of correlation between household size and the monthly income of a household. The covariance of regressor is influencing with high intensity. R Squared ( R2) = 0.744923896 R Squares is closed to 1 which means that on the graph, all the points are on the line and that there are few errors from the regression line. Also it determines a medium relation between the two variables. Only 74% of the monthly income is explained by the regressor. Adjusted R Square = 0.74111679 Adjusted R Square determines the variation of monthly income explained by the household size, taking into account other influences not recorded. Only 74% of variation is explained by the regressor. Standard Error = 268.6403029

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ANOVA Testing the Validity of the Model (using Fischer Test) Step 1: State the null hypothesis and the alternative hypothesis. H0: The model previously presented is not statistically valid, meaning that all predicted monthly incomes are having the same level. = . = 1= H1: The model previously presented is valid, meaning that we can identify at least two predicted monthly incomes with significantly different values.
i j

Step 2: Evaluate the variation of monthly income due to the regressor and due to other factors. SSR gives the explained variation due to the regression line. Establish the significance level =1% (the smallest chosen probability to commit error type 1) and to take decision to reject or not, we start with the SS column compute square sums means (MS) Step 3: MS Residuals = Where: n= sample size k= number of regressor MS Regression = = 14120799.096 = = 72167.61

Step 4: Compute Fcalculated. Fischers Statistic = = = 195.66 = Fcalc

The significance F = 1.48776E-21. According to Excel scientific notation, it means that the significance level has the value of 1.48776 , which is a very small value. According to the ANOVA Table, because significance F < (1%) Fcalc rejection region (RR) meaning that we do not have enough evidence to accept the null hypothesis the model is valid. Because the significance F is smaller than the chosen significance level to commit error type 1, we will reject the H0 in 99% of cases. The valid decision is to reject H0 in 99% of the cases and the model might not be valid in 1% of cases. The answer of the assumption: we do not have enough evidence to accept the null hypothesis, and in conclusion, our model is valid. If at the beginning of our assumption, we determined that an increase in the household size by one person determines a decrease in monthly income by 376.2 RON, now we can be sure in 95% of the cases that an increase in the household size by one person will determine a decrease in monthly income between 322.5 RON and 429.9 RON. II Method used: Multiple linear regression model Assumption: Analyze how the number of household members and the amount of monthly income affect the variation of monthly household debt. Regression statistics and ANOVA table:

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SUMMA RY OUTPUT Regression Statistics 0.7783 Multiple R 12 0.6057 R Square 7 Adjusted R 0.5940 Square 01 104.86 Standard Error 49 Observations 70

ANOVA df Regressi on Residual Total 2 SS MS F Significan ce F 2.87E-14

Intercept Monthly Income Household Size

113212 566060 51.475 0 .2 68 67 736775. 10996. 7 65 69 186889 6 Coefficie Standa t Stat P-value nts rd Error -220.544 102.49 - 0.0350 46 2.1517 24 6 0.346636 0.0476 7.2694 4.98E84 46 10 204.2945 20.749 9.8455 1.2E-14 87 77

Lower 95% 425.12 4 0.2514 59 162.87 76

Upper 95% 15.963 4 0.4418 14 245.71 14

Lower 95.0% 425.12 4 0.2514 59 162.87 76

Upper 95.0% 15.9634 0.44181 4 245.711 4

We will have the following variables: Dependent variable (regressant) Y: Monthly Debt Independent variables: (X) Monthly Income and Household Size

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The Monthly Debt is described by the Monthly Income and the Household Size. On the basis of our sample results we can write the least squares regression line: Monthly Debt = -220.544 + 0.3 Monthly Income+ 204.3 Household Size Y = -220.5 + 0.3 X1 + 204.3 X2 Household Size influences Monthly Debt in a positive way (this type of relationship is given by the sign of the slope). This means that an increase in the number of household members determines an increase in the monthly debt, and vice versa. The value of the slope tells us that an increase in the household size by one person determines an increase in the monthly debt of 204.3 RON. Monthly Income influences Monthly Debt in the same positive way. This means that an increase in the household monthly income determines an increase in the monthly debt, and vice versa. This type of relationship is shown by the sign of the slope. The value of the slope tells us that an increase in the monthly income by 1 RON determines an increase in the monthly debt of 0.3 RON. Characterize the regression model Multiple R = 0.778312 Multiple R tends to 1 which determine a quite high level of correlation between monthly debt and household size and the monthly income of a household. The covariance of regressor is influencing with high intensity. R Squared ( R2) = 0.60577 R Squares is greater than 0.5 which means a medium relation between the variables. Only 60% of the monthly debt is explained by the two regressors. Adjusted R Square = 0.594001 Adjusted R Square determines the variation of monthly debt explained by the household size and monthly income, taking into account other influences not recorded. Only 59% of variation is explained by the two regressors. ANOVA Testing the Validity of the Model (using Fischer Test) Step 1: State the null hypothesis and the alternative hypothesis. H0: The model previously presented is not statistically valid, meaning that all predicted monthly debts are having the same level. = . = 1= H1: The model previously presented is valid, meaning that we can identify at least two predicted monthly debts with significantly different values.
i j

Step 2: Establish the significance level =5% (the chosen probability to commit error type 1) and to take decision to reject or not, we start with the SS column compute square sums means (MS). Step 3: Evaluate the mean variation. Because we have two regressors, the MSR will be SSR/2. The mean variation due to other factors is MSE= .

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MSR = MSE =

= =

= 566060.2 = 10996.65

Where: n= sample size k= number of regressor Step 4: Compute F calculated Fischers Statistic = = = 51.47= Fcalc

The significance F = 2.87E-14. According to Excel scientific notation, it means that the significance level has the value of 2.87 , which is a very small value According to the ANOVA Table, because significance F < (5%) Fcalc rejection region (RR) the model is valid. Because the significance F smaller than the chosen significance level to commit error type 1, we will reject the H0 in 95% of cases. The valid decision is to reject H0 in 95% of the cases and the model might not be valid in 5% of cases. The answer of the assumption: we do not have enough evidence to accept the null hypothesis, and in conclusion, our model is valid. We can make future predictions. Our sample results determined that the value of the slope tells us that an increase in the household size by one person determines an increase in the monthly debt of 204.3 RON. Now, we can state with a 95% level of probability that an increase in the household size by one person determines an increase in the monthly debt between 162RON and 245RON. Also, our sample results determined that an increase in the monthly income by 1 RON determines an increase in the monthly debt of 0.30 RON. Now, we can state with a 95% level of probability that an increase in monthly income by 1 RON determines an increase in the monthly debt having the values between 0.25 RON and 0.44 RON. P-value (the computed probability to commit error type 1 upon the null hypothesis stating that the slope is 0) for both independent variables has very small values, which means that we have strongly statistical support to reject the null hypothesis. Chapter III Conclusion In conclusion, the usage of econometric variables, as specified so far, in order to try to explain the quality of life and living standards of Romanians is more than justified. They help define and understand the phenomenon of poverty, as well as the need to address this issue, by adopting measures to promote social inclusion. The promotion of social inclusion requires a long-term effort, part of a national strategy for social development. Along with measures to address risks of social exclusion, the promotion of social inclusion requires preventive intervention directions, in which the social support regardless of its form is viewed as a social investment. A first step in this direction is the reduction of the fracture between the social and the economic sphere, simultaneously with an

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increased interconditional relationship between the two areas. A further step is designing the social protection system as a whole References: [1] Constantin Mitrut, Daniela Serban, Basic Econometrics for Business Administration, Ed. ASE, 2007 Survey link (database information): http://www.zoomerang.com/Shared/SharedResultsSurveyResultsPage.aspx? ID=L246UVP4ZASN

ANNEX 1 Database
Observati Monthly Household Monthly ons Income Size Debt 1 1250 2 800 2 1400 2 880 3 1100 2 670 4 500 4 800 5 740 3 780 6 570 3 500 7 490 5 900 8 1300 1 480 9 830 3 800 10 610 3 570 11 1700 1 500 12 2300 1 700 13 1600 1 490 14 700 3 670

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15 16 17 18 19 20 21 22 23 24 25 26 27 28 29 30 31 32 33 34 35 36 37 38 39 40 41 42 43 44 45 46 47 48 49 50 51 52 53 54 55 56 57

550 500 490 520 580 740 950 1000 1500 2300 580 1350 740 600 550 450 480 530 580 560 1300 890 2000 2700 560 480 470 670 480 900 1400 500 1450 1600 680 1200 550 720 2000 1200 1500 950 560

4 4 5 4 4 3 3 2 1 1 4 2 3 4 3 5 4 5 3 3 2 3 1 1 4 4 5 3 4 3 2 4 2 1 3 2 4 3 1 2 1 3 3

810 800 990 850 820 670 860 600 430 700 700 400 680 750 500 910 610 930 500 500 800 850 580 820 710 800 960 620 590 820 870 620 800 430 650 740 710 680 600 690 440 900 490

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58 59 60 61 62 63 64 65 66 67 68 69 70

490 600 490 570 450 950 1700 600 800 700 1400 670 530

4 4 3 4 5 4 1 3 3 4 2 3 3

810 780 450 730 930 1200 500 550 770 880 680 620 475

ANNEX 2 Scatter Diagram

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