Econometrics PS 9 - Professor Seyhan Erden

Laurice Wong (​lw2646@columbia.edu​)

Question 1
a. Given E(u | X​i​) = 0, when in the research treatment assigned randomly and is binary, we
can rewrite the regression equation get ΔY = Y treatment -​ Y control =
​ β 0+
​ β 1 (​ X treatment​ - X
control​) + ​u​i​ . ​Since X treatment ​ = 1 and X control ​ = 0 for binary X, β 1 ​ is therefore the
“differences” estimator and provides the difference in mean between the treatment group
and the control group.
b. In the first case where we want to test for the statistical significance of the differences
estimator, we set:

︿ ︿
H​0​: β 1​= 0 vs. H​1​: β 1 =/=
​ 0

To test for statistical significance of the difference in means, we set:

H​
​ 0​: Y ​treatment -​ Y = 0 vs. H​1​: Y
control ​ treatment ​- Y control ​=/= 0

The variances for these two statistics are difference so the SE’s for each are different,
however the test for statistical significance is the same.

Question 2
a. “Low wage” restaurants constitutes as a treatment group and “high wage”restaurants
constitutes as a control group. This is because the “low wage” restaurants in New Jersey
would be forced to increase their wages to the level of the “high wage” group after the
minimum wage increase takes effect. By observing the difference in employment
changes between restaurants that did have to change wages due to the minimum wage
increase vs. those who don’t (in the same state), we are in a way choosing an
instrumental variable Z (here = low wage/ high wage binary) that in term influences the
receipt of the treatment X (a wage increase corresponding to the minimum wage
increase). Whether a restaurant is low wage or high wage prior to the minimum wage
increase can be seen to be chosen “as if” randomly assigned, and hence this would also
lead to the minimum wage increase treatment to be “as if” randomly assigned. We can
therefore see this as a quasi/ natural experiment.
b. Change in treatment group = 20.88 - 19.56 = 1.32
Change in control group = 20.21 - 22.25 = -2.04
︿
β 1​diffs-in-diffs​ = 1.32 - (-2.04) = 3.36
︿
Given minimum wage level represent a price floor, we would expect β 1​diffs-in-diffs​ to be
positive because mandatory wage increase in the treatment group (low wage
restaurants) necessarily
Econometrics PS 9 - Professor Seyhan Erden
Laurice Wong (​lw2646@columbia.edu​)
︿
c. T-statistic = 3.36/1.48 = 2.27>1.96 so the we reject the null hypothesis. β 1​diffs-in-diffs ​is
statistically significant. Sample size is large (n>30) so normal distribution is assumed.

d.

Question 3

a. Summary statistics below:

Econometrics PS 9 - Professor Seyhan Erden
Laurice Wong (​lw2646@columbia.edu​)

b. See attached for scatter plots. First autocorrelations are listed below:
Given the scatter plot and autocorrelations -

CPI​t​ has a scatter plot that has a consistent upward trend. The first autocorrelation of
CPI given by the AR(1) model is 0.9966, which is very close to 1, suggesting that CPI is
highly serially correlated - as such, it has a stochastic trend.
Unratet​ ​ ​has a scatter plot that fluctuates (randomly) about a constant value. The first
autocorrelation of unemployment rate given by the AR(1) model is 0.9923 suggesting
that unemployment rate is highly serially correlated - as such, it has a stochastic trend.
Monthly inflation rate has a scatter plot that fluctuates randomly about a constant value.
The first autocorrelation of unemployment rate given by the AR(1) model is 0.6276
suggesting that unemployment rate is serially correlated - as such, it has a stochastic
trend.

The more formal method to test for stochastic trend in a series is the Dickey-Fuller test
or the dfuller test in STATA. In the AR(1) model, we test for null hypothesis H​0​ : β 1 =
​ 1

vs. H​1 ​ : β 1 ​< 1. If we fail to reject the null hypothesis, the AR(1) model has a unit
autoregressive root of 1, so it has a stochastic trend; the alternative hypothesis will lead
us to conclude that the series is stationary.

The test is more easily implemented by estimating a modified version of the AR(1) model
such that we test
H​0​ : δ 1 =
​ 0 vs. H​1 ​ : δ 1 <
​ 1 for the regression equation ΔY t​ = β 0 +
​ δ 1 Y t-1 +
​ u​t
Econometrics PS 9 - Professor Seyhan Erden
Laurice Wong (​lw2646@columbia.edu​)

c. Running the Dickey-Fuller test for CPI, we get t-statistic 7.036 for ​noconstant (​ which is
larger than critical values at all common significance levels), and we can fully fail to
​ or both drift and drift+trend tests we also fail to reject the null hypothesis that
reject H​0​.​ F
US CPI exhibits a unit root, so we can conclude that conclude that the US CPI series
displays a stochastic trend.

Running the Dickey-Fuller test for ​unrate,​ we get t-statistic -0.887 (which is less negative
than the than critical values at all common significance levels) for ​noconstant. ​For the
dfuller test with drift we obtain a test statistic of -2.991 and we reject the null hypothesis
of ​unrate ​exhibiting a unit root or that it is non-stationary. For the dfuller test with trend
we fail to reject the null hypothesis at t-statistic = -2.948. In this case, the ADF provides
an argument for ​unrate​ being stationary about a constant.

Running the Dickey-Fuller test for ​inf​, we get t-statistic -3.596 (which is more negative
than the than critical values at all common significance levels) for ​noconstant, ​so we
​ or the dfuller test with drift and with
reject the null hypothesis for of a unit root​. F
drift+trend we obtain p-values for both test statistics as 0 so we can reject the null
hypothesis of unrate exhibiting a unit root or that it is non-stationary. In this case, the
ADF provides an argument for ​inf​ being stationary.

The optimal lag length can be selected using information criterion AIC/ BIC. We can also
conduct F-test to find the optimal lag length (ie. find the optimal number of lags before
Econometrics PS 9 - Professor Seyhan Erden
Laurice Wong (​lw2646@columbia.edu​)

we fail to reject the F-test for joint significance).

d. AR(1) model regression results

AR(4) model regression results

ADL(2,2) model regression results

Econometrics PS 9 - Professor Seyhan Erden
Laurice Wong (​lw2646@columbia.edu​)

e. Inflation and Unemployment in the US, 2018m8 to 2019m3

Month Unemployment Rate of Inflation at an First Lag (​Inf​t-1​) Change in

Rate annual rate (​Inft​​ ) Inflation ( ΔInf t​)
(​Urate​C​t​)

2018m8 3.8 1.344255 2.210328 -0.866073

2018m9 3.7 0.623947 1.344255 -0.720308

2018m10 3.8 3.72739 0.623947 3.103443

2018m11 3.7 -0.1614071 3.72739 -3.8887971

2018m12 3.9 -0.1756736 -0.1614071 -0.0142665

2019m1 4 -0.2374376 -0.1756736 -0.061764

2019m2 3.8 2.08784 -0.2374376 2.3252776

2019m3 3.8 4.896894 2.08784 2.809054

Econometrics PS 9 - Professor Seyhan Erden
Laurice Wong (​lw2646@columbia.edu​)

The prediction for inflation rates for 2019m1, 2019m2 and 2019m3 according to AR(1), AR(4)
and ADL(2,2) is as follows:

Model Month β1 Predicted change Rate of Inflation at Forecast Error

in Inflation an annual rate
(​Inft​​ )

AR(1) 2019m1 -0.297

AR(4) 2019m1 -0.455

ADL(2,2) 2019m1 -0.365

AR(1) 2019m2

AR(4) 2019m2

ADL(2,2) 2019m2

AR(1) 2019m3

AR(4) 2019m3

ADL(2,2) 2019m3

f)

To conduct a Granger causality test, conduct an F-test to test the joint significance of
coefficients of first and second lags of differences in ​unrate.​ Set null hypothesis H​0​ : δ 1​ = δ 2 =
​ 0

and alternative hypothesis H​1​ : δ 1​ =/= δ 2 ​=/= 0. The F-stat is 0.5 and the p-value is 0.6084 so
we overwhelmingly fail to reject the null hypothesis. Therefore the lags of differences in
unemployment rate do not have predictive content for change in inflation rate beyond those
contained in lags of monthly inflation rate.
Econometrics PS 9 - Professor Seyhan Erden
Laurice Wong (​lw2646@columbia.edu​)

Question 4
a. The lag used is approximated by the rule of thumb for truncation parameter m =
0.74*(97)^(⅓)=​3.446 → round up to 4.

Regression I
Econometrics PS 9 - Professor Seyhan Erden
Laurice Wong (​lw2646@columbia.edu​)

Regression 2

b. The coefficients in Regression 1 -

β 1​ is called the impact multiplier/ impact effect.
The coefficients in Regression 2 -
δ 1 is
​ called the impact multiplier/ impact effect, δ 2 is
​ called the first cumulative multiplier,
δ 3 is
​ the second cumulative multiplier… etc. Finally δ 6 is (fifth)
​ cumulative multiplier
where it equals to β 1​ + β 2 +
​ …+ β 6​.

Regression 2 is needed because it is basically a rewritten form of Regression 1(which is

the ADL model). This regression is needed because the cumulative multipliers up to
each past month, as well as their HAC SE’s, cannot be calculated from Regression 1. By
rewriting the ADL model as Regression 2 we can directly compute the cumulative
multipliers and their HAC SE’s from it, and also run relevant t-tests for cumulative
multipliers.
c. The impact effect of a 10 point increase in growing degree days in the current month on
the percent change of olive oil prices is 10*(.564)% = 5.64%.
d. The predicted cumulative change in olive oil prices of a 10 point increase in growing
degree days on the percent change of olive oil price over two months is 0.186*10 =
18.6%. 0.186 is the value of δ 2​ obtained from regression 2.
e. HAC errors with 4 lags are used since errors are serially correlated in this ADL model.
f. Strictly endogenous X’s imply that E(u​t​|…,X​t+1​,X​t​,X​t–1​, …) = 0 while exogenous X’s imply
E(u​t​|X​t​,X​t–1​, …) = 0. That is to say for X to be strictly exogenous, future X’s must not have
some effect on current outcome Y​t​ as well. Whereas for X to be exogenous only, only X’s
up to the current time period must have conditional mean 0 with the error term.
Econometrics PS 9 - Professor Seyhan Erden
Laurice Wong (​lw2646@columbia.edu​)

I think that the growing degree days variable is exogenous in this model because
weather (which directly affects the growing degree days variable) can be forecasted.
Oliver tree farmers/ olive oil producers will adjust the current pricing of olive oil if they
know that there is more extreme weather (freezing or overly hot temperatures) that will
affect the olive tree production in the upcoming time periods. Therefore we cannot
plausibly conclude that future ​month_growing​ has conditional mean zero with u​t​, and
therefore ​monthly_growing ​is not strictly exogenous.