B.

6 EXERCISES

497

20

B.6 Exercises
B.1 * Let X be a discrete random variable with values x = 0, 1,2 and probabilities P(X = 0) = 0.25, P(X = 1) = 0.50, and P(X = 2) = 0.25, respectively. (a) Find E(X). (b) Find E(X2). (c) Find var(X). (d) Find the expected value and variance of g(X) = 3X + 2.

498

REVIEW OF PROBABILITY CONCEPTS

21

B,2

Let X be a discrete random variable that is the value shown on a single roll of a fair die. (a) Represent the probability density function f(x) in tabular form. (b) What is the probability that X = 4? That X = 4 or X = 5? (c) What is the expected value of X? Explain the meaning of E(X) in this case. (d) Find the expected value of X2. (e) Find the variance of X. (f) Obtain a die. Roll it 20 times and record the values obtained. What is the average of the first 5 values? The first 1O? What is the average of the 20 rolls? Let X be a continuous random variable whose probability density function is

B,3

f(x)

={

2x

o<x< 1
othenvtse

(a) Sketch the probability density function f(x). (b) Geometrically calculate the probability that X falls between and 1/2. (c) Geometrically calculate the probability that X falls between 1/4 and 3/4.

B.4 Let the binary random variable X have pdff(x) = ]7"{1 - p) I-x for x = 0, 1. (a) Find the mean and variance of X. (b) Let XI,." ,Xn be independent discrete (0,1) random variables each with probability density function f{x). The random variable B Xl + X2 + ... + Xn has a binomial distribution with parameters nand p. The values of Bare b = 0, ... ,n and represent the number of "successes" (i.e., Xi = 1) in n independent trials of an experiment, each with probability p of success. Calculate the mean and variance of B using the rules of expected values and variances. [Hint: What is the expected value of a sum? The variance?] (c) Let XI , ... ,Xn be independent discrete (0, 1) random variables with probability density functions f{x). The random variable B = XI + X2 + ... + Xn has a binomial distribution. The random variable Y = B / n is the proportion of successes in n trials of an experiment. Find the mean and variance of Yusing the rules of expected values and variances. B,5 The joint probability density function of two discrete random variables X and Yis given by the following table:
y

x
(a) (b) (c) (d)

2 4 6

1/8 1/4 1/8

1/24 1/4 1/24

1/12

o
1/12

Find the marginal probability density function of Y. Find the conditional probability density function of Y given that X = 2. Find the covariance of X and Y. Are X and Y independent?

B,6* Consider the population in Table B,5 and the joint distribution of the random variables X and Y in Table B,8. described in Section B.3.3. (a) Find the expected value and variance of the random variable 1'. using the probability distribution in Table B,6.

B.6 EXERCISES

499

22

(b) Find the covariance between X and Y. (c) Find the correlation between X and Y. R7 Let XI,X2, ... ,Xn be independent random variables which all have the same probability distribution, with mean fL and variance (12. Let

X = - IXi
ni=l

II

(a) Use the properties of expected values to show that E(K) fL. (b) Use the properties of variance to show that var(K) (12/ n. How have you used the assumption of independence? B.8 Suppose that Y1 , Y2 , Y3 is a sample of observations from a N(fL, (12) population but that Y1 , Y2 , and Y3 are not independent. In fact suppose

Let Y = (Yl

+ Y2 + Y3)/3.

(a) Find E(Y)

(b) Find var(r) R9* The length of life (in years) of a personal computer is approximately normally distributed with mean 2.9 years and variance 1.96 years. (a) What fraction of computers will fail in the first year? (b) What fraction of computers will last 4 years or more? (c) What fraction of computers will last at least 2 years? (d) What fraction of computers will last more than 2.5 years but less than 4 years? (e) If the manufacturer adopts a warranty policy in which only 5% of the computers have to be replaced, what will be the length of the warranty period? RIO Based on long years of experience, an instructor in the principles of economics has determined that in her class the probability distribution of X, the number of students absent on Mondays, is as follows:
x

o
0.005 0.025

3
0.340

4
0.220

5 0.080

6
0.019

7 0.001

f(x)

0.310

(a) Sketch a probability function of X. (b) Find the probability that on a given Monday either two or three or four students will be absent. (c) Find the probability that on a given Monday more than three students are absent. (d) Compute the expected value of the random variable X. Interpret this expected value. (e) Compute the variance and standard deviation of the random variable X. (f) Compute the expected value and variance of Y 7X + 3. B.ll * Let X be a continuous random variable with probability density function given by

I(x)

-O.5x + 1,

0:::; x :::; 2

(a) Graph the density function I(x). (b) Find the total area beneath I (x) for 0 :::; x :::; 2.

500

REVIEW OF PROBABILITY CONCEPTS

23

(c) Find P(X;;:: 1). (d) Find P(X 0.5). (e) Find P(X = 1.5).

s:

B.12 Suppose a certain mutual fund has an annual rate of return that is approximately normally distributed with mean (expected value) 10% and standard deviation 4%. Use Table 1 for parts (a)-(c). (a) Find the probability that your I-year return will be negative. (b) Find the probability that your I-year return will exceed 15%. (c) If the mutual fund managers modify the composition of its portfolio, they can raise its mean annual return to 12%, but this change will also raise the standard deviation of returns to 5%. Answer parts (a) and (b) in light of these decisions. Would you advise the fund managers to make this portfolio change? (d) Verify your computations in (a)-(c) using your computer software. B.13* An investor holds a portfolio consisting of two stocks. She puts 25% of her money in Stock A and 75% into Stock B. Stock A has an expected return of RA = 8% and a standard deviation of (J'A 12%. Stock B has an expected return of RB 15% with a standard deviation of (J'B = 22%. The portfolio return is P 0.25RA + 0.75RB. (a) Compute the expected return on the portfolio. (b) Compute the standard deviation of the returns on the portfolio assuming that the two stocks' returns are perfectly positively correlated. (c) Compute the standard deviation of the returns on the portfolio assuming that the two stocks' returns have a correlation of 0.5. (d) Compute the standard deviati on of the returns on the portfolio assuming that the two stocks' returns are uncorrelated.

67

C.10 Exercises
C.I Suppose YI , Y2 , , YN is a random sample from a population with mean fJ. and variance 0'2. Rather than using all N observations consider an easy estimator of fJ. that uses only the first two observations
Y*

=!1 + Yz
2

C.IO EXERCISES

545

68

(a) (b) (c) (d) C.2

Show that Y* is a linear estimator. Show that Y* is an unbiased estimator. Find the variance of Y*. Explain why the sample mean of all N observations is a better estimator than Y*.

Suppose that Y1 , Yz, Y3 is a random sample from a N(I1-, 0- 2 ) population. To estimate 11consider the weighted estimator

Y = - Yt + - Y2 + - Y3 236
(a) (b) (c) (d) (e) Show that Y is a linear estimator. Show that Y is an unbiased estimator. Find the variance of Y and compare it to the variance of the sample mean Y. Is Y as good an estimator as Y? If 0- 2 = 9, calculate the probability that each estimator is within I unit on either side of 11-.

C.3 * The hourly sales of fried chicken at Louisiana Fried Chicken are normally distributed with mean 2000 pieces and standard deviation 500 pieces. What is the probability that in a 9-hour day more than 20,000 pieces will be sold? C.4 Starting salaries for Economics majors have a mean of $47,000 and a standard deviation of $8,000. What is the probability that a random sample of 40 Economics majors will have an average salary of more than $50,000?

C.5* A store manager designs a new accounting system that will be cost effective if the mean monthly charge account balance is more than $170. A sample of 400 accounts is randomly selected. The sample mean balance is $178 and the sample standard deviation is $65. Can the manager conclude that the new system will be cost effective? (a) Carry out a hypothesis test to answer this question. Use the (t 0.05 level of significance. (b) Compute the p-value of the test. C.6 An econometric professor's rule of thumb is that students should expect to spend 2 hours outside of class on coursework for each hour in class. For a 3 hour per week class, this means that students are expected to do 6 hours of work outside class. The professor randomly selects eight students from a class, and asks how many hours they studied econometrics during the past week. The sample values are 1, 3, 4,4,6,6, 8, 12. (a) Assuming that the population is normally distributed, can the professor conclude at the 0.05 level of significance that the students are studying on average at least 6 hours per week? (b) Construct a 90% confidence interval for the popUlation mean number of hours studied per week. C.7 Modern labor practices attempt to keep labor costs low by hiring and laying off workers to meet demand. Newly hired workers are not as productive as experienced ones. Assume assembly line workers with experience handle 500 pieces per day. A manager concludes it is cost effective to maintain the current practice if new hires, with a week of training, can process at least 450 pieces per day. A random sample of N 50 trainees is observed. Let Y; denote the number of pieces each handles on a

546

REVIEW OF STATISTICAL INFERENCE

69

randomly selected day. The sample mean is y = 460 and the estimated sample standard deviation is (j = 38. (a) Carry out a test of whether or not there is evidence to support the conjecture that current hiring procedures are effective, at the 5% level of significance. Pay careful attention when formulating the null and alternative hypotheses. (b) What exactly would a Type I error be in this example? Would it be a costly one to make? (c) Compute the p-value for this test. C.8* To evaluate alternative retirement benefit packages for its employees, a large corporation must determine the mean age of its workforce. Assume that the age of its employees is normally distributed. Since the corporation has thousands of workers a sample is to be taken. If the standard deviation of ages is known to be (J' 21 years, how large should the sample be to ensure that a 95% interval estimate of mean age is no more than 4 years wide? C.9 Consider the discrete random variable Y that takes the values y = 1,2, 3, and 4 with probabilities 0.1, 0.2. 0.3, and 0.4, respectively. (a) Sketch this pdf (b) Find the expected value of Y (c) Find the variance of Y (d) If we take a random sample of size N = 3 from this distribution, what are the mean and variance of the sample mean, = (Yl + Y2 + Y3)/3?

APPENDIX

Exercise Solutions

419

Appendix B, Exercise Solutions, Principles of Econometrics, 3e

420

EXERCISE B.1
(a)

E ( X ) = xi P ( X = xi ) = 0 0.25 + 1 0.50 + 2 0.25 = 1

i =0

(b)

E ( X 2 ) = xi 2 P ( X = xi ) = 02 0.25 + 12 0.50 + 22 0.25 = 1.5

2 i =0 2

(c) (d)

var( X ) = ( xi E ( X ) ) P ( X = xi ) = ( 0 1) 0.25 + (1 1) 0.50 + ( 2 1) 0.25 = 0.5

2 2 2 2 i =0

E g ( X ) = E (3 X + 2) = 3E ( X ) + 2 = 5
2 var g ( X ) = var(3 X + 2) = 3 var( X ) = 4.5

Appendix B, Exercise Solutions, Principles of Econometrics, 3e 421

EXERCISE B.2
(a) Probabilities of a single roll of a fair die X 1 2 3 4 5 6 f ( x)

1 1

6 6

1
1

6
6

1
1

6
6

(b)

P ( X = 4) = 1 6 P ( X = 4 or X = 5 ) = P ( X = 4 ) + P ( X = 5 ) = 1 6 + 1 6 = 1 3

(c)

E ( X ) = x. f ( x) = 1 1 6 + 2 1 6 + 3 1 6 + 4 1 6 + 5 1 6 + 6 1 6 = 3.5
x =1

E ( X ) = 3.5 is the average face value, if the dice is rolled a large number of times.

(d) (e)

E ( X 2 ) = x 2 . f ( x) = 12 1 6 + 22 1 6 + 32 1 6 + 42 1 6 + 52 1 6 + 62 1 6 =
x =1

91 6

The variance is given by var( X ) = ( xi E ( X ) ) P ( X = xi )

2 i =1 6

= (1 3.5 ) 1 6 + ( 2 3.5 ) 1 6 + ( 3 3.5 ) 1 6 + ( 4 3.5 ) 1 6

2 2 2 2

+ ( 5 3.5 ) 1 6 + ( 6 3.5 ) 1 6
2 2

= 2.917

(f)

Average values after 5 rolls, 10 rolls and 20 rolls.

Appendix B, Exercise Solutions, Principles of Econometrics, 3e 422

EXERCISE B.3
(a) A sketch of the density function
2 x 0 x 1 f ( x) = 0 otherwise is as follows f(x)

(b)

When x = 1/ 2, f ( x) = 1 . The probability P (0 X 0.5) is the area of a triangle with base = 0.5 and height = 1. Since area of a triangle = 0.5 baseheight , the probability is given by P (0 X 0.5) = 0.5 0.5 1 = 0.25

(c)

When x = 1/ 4, f ( x) = 2 / 4 . When x = 3/ 4, f ( x) = 6 / 4 . The probability P (0.25 X 0.75) is given by the area of a rectangle with base = 0.5 and height = 0.5 plus the area of a triangle with base = 0.5 and height = (1.5 0.5) . That is, P (0.25 X 0.75) = (0.5 0.5) + (0.5 0.5 1) = 0.5

Appendix B, Exercise Solutions, Principles of Econometrics, 3e 423

EXERCISE B.4
(a) Using the pdf f ( x ) = p x (1 p )
1 x

for x = 0,1:

The mean of the binary random variable, X, is

E ( X ) = x f ( x ) = 0 f ( 0 ) + 1 f (1) = p1 (1 p )
x 11

=p

The variance of X is var ( X ) = E ( X E ( X ) ) = ( x p ) f ( x ) = ( x p ) p x (1 p )

2 2 2 x 2 2 x 1 x

= ( p ) p 0 (1 p )1 0 + (1 p ) p1 (1 p )11 = p 2 (1 p ) + (1 p ) p
2

= p (1 p )( p + 1 p ) = p (1 p ) (b)

E ( B) = E ( X 1 + X 2 + " + X n ) = E ( X 1 ) + E ( X 2 ) + " + E ( X n )

= p + p + " + p = np
var ( B ) = var ( X 1 + X 2 + ... + X n ) = var ( X 1 ) + var ( X 2 ) + " + var ( X n ) , since X 1 ,..., X n are independent = p (1 p ) + p (1 p ) + " + p (1 p ) = np (1 p ) (c)
np B 1 E (Y ) = E = E ( B) = =p n n n

np (1 p ) p (1 p ) B 1 var (Y ) = var = 2 var ( B ) = = n2 n n n

Appendix B, Exercise Solutions, Principles of Econometrics, 3e 424

EXERCISE B.5
(a) The marginal probability density function of Y is h(y) where
1 1 1 1 h(1) = + + = 8 4 8 2
h(3) = 1 1 1 1 + + = 24 4 24 3

h(9) = (b)

1 1 1 +0+ = 12 12 6

The conditional probability density function for y given X = 2 is f ( y | X = 2) = f (2, y ) g (2) , where g ( x) is the marginal probability density function for x. Now,
1 1 1 1 g (2) = + + = 8 24 12 4

and so f ( y | X = 2) is given by

f (1| X = 2) =
f (3| X = 2) =

f (2,1) 1/ 8 1 = = g (2) 1/ 4 2
f (2,3) 1/ 24 1 = = g (2) 1/ 4 6

f (9| X = 2) = (c)

f (2,9) 1/12 1 = = g (2) 1/ 4 3

cov ( X , Y ) = E[ X E ( X )][Y E (Y )]
1 1 E( X ) = 2 1 4 + 4 2 + 6 4 = 4
1 1 E (Y ) = 1 1 2 + 3 3 + 9 6 = 3

cov ( X , Y ) = ( x 4 )( y 3) f ( x, y )
x y

1 1 1 = ( 2 4 )(1 3) 1 8 + ( 2 4 )( 3 3) 24 + " + ( 6 4 )( 3 3) 24 + ( 6 4 )( 9 3) 12

=0 (d) This is an example where X and Y are not independent, despite the fact that their covariance is zero. If X and Y are independent, then f ( x, y ) = g ( x)h( y ) . To show that independence does not hold, consider the example when x = 2 and y = 3, f ( 2,3) = 1 1 1 1 g ( 2 ) h ( 3) = = 24 4 3 12

Appendix B, Exercise Solutions, Principles of Econometrics, 3e 425

EXERCISE B.6
(a) E (Y ) = 0 0.6 + 1 0.4 = 0.4 var(Y ) = (0 0.4) 2 0.6 + (1 0.4) 2 0.4 = 0.24 (b) E ( X ) = 1 0.1 + 2 0.2 + 3 0.3 + 4 0.4 = 3 var( X ) = (1 3) 2 0.1 + (2 3) 2 0.2 + (3 3) 2 0.3 + (4 3) 2 0.4 = 1 E ( XY ) = 0 0 0.1 + 0 2 0.1 + " + 1 3 0.1 + 1 4 0.1 = 1 cov ( X , Y ) = E[ X E ( X )][Y E (Y )] = E ( XY ) E ( X ) E (Y ) = 1 3 0.4 = 0.2 cov(XY ) 0.2 = = 0.408 var(X ) var(Y ) 1 0.24

(c)

Appendix B, Exercise Solutions, Principles of Econometrics, 3e 426

EXERCISE B.7
(a)
1 1 E ( X ) = E ( X 1 + X 2 + ... + X n ) = ( E ( X 1 ) + E ( X 2 ) + " + E ( X n ) ) n n

1 n ( + + " + ) = = n n

(b)

1 var ( X ) = var ( X 1 + X 2 + " + X n ) n

= 1 ( var ( X 1 ) + var ( X 2 ) + " + var ( X n ) ) n2

1 2 2 n = n2 n

Since X 1 , X 2 ,..., X n are independent random variables, their covariances are zero.

Appendix B, Exercise Solutions, Principles of Econometrics, 3e 427

EXERCISE B.8
(a)
1 1 3 1 3 E (Y ) = E Yi = E (Yi ) = ( 3 ) = 3 3 i =1 3 i =1 1 3 1 var (Y ) = var Yi = var (Y1 + Y2 + Y3 ) 3 i =1 9

(b)

= =

1 ( var (Y1 ) + var (Y2 ) + var (Y3 ) + 2cov(Y1 ,Y2 ) + 2cov(Y1 ,Y3 ) + 2cov(Y2 ,Y3 ) ) 9 1 ( 32 ) + 3 2 ( 0.52 ) 9

1 1 = 2 + 2 3 3 = 2 2 3

Appendix B, Exercise Solutions, Principles of Econometrics, 3e 428

EXERCISE B.9
(a) 1 2.9 P ( X < 1) = P Z < = P ( Z < 1.357 ) = 1 P ( Z < 1.357 ) = 0.087 1.96 4 2.9 P ( X 4) = P Z > = P ( Z > 0.786 ) = 1 P ( Z < 0.786 ) = 0.216 1.4 2 2.9 P ( X 2) = P Z > = P ( Z > 0.643) = P ( Z < 0.643) = 0.740 1.4 4 2.9 2.5 2.9 P ( 2.5 < X < 4 ) = P <Z< = P ( 0.286 < Z < 0.786 ) 1.4 1.4
= P ( Z < 0.786 ) P ( Z < 0.286 ) = P ( Z < 0.786 ) (1 P ( Z < 0.286 ) ) = 0.396 (e) We want X0 such that P(X < X0) = 0.05. Now, P( Z < 1.645) = 0.95 and hence P ( Z < 1.645) = 0.05 Thus, it follows that a suitable X0 is such that
1.645 = X 0 2.9 1.4

(b)

(c)

(d)

Solving for X0 yields X 0 = 2.9 (1.645 )(1.4 ) = 0.597 (which is approximately 7 months)

Appendix B, Exercise Solutions, Principles of Econometrics, 3e 429

EXERCISE B.10
(a) The probability function of X is shown below.
0.4

0.3

0.2

0.1

0.0 0 1 2 3 4 FX 5 6 7

(b)

The probability that, on a given Monday, either 2, or 3, or 4 students will be absent is

f ( x) =
x=2

f (2) + f (3) + f (4) = 0.310 + 0.340 + 0.220 = 0.87

(c)

The probability that, on a given Monday, more than 3 students are absent is

f ( x) =
x=4

f (4) + f (5) + f (6) + f (7) = 0.220 + 0.080 + 0.019 + 0.001 = 0.32

(d)

E ( X ) = x. f ( x) = 0 0.005 + 1 0.025 + 2 0.310 + 3 0.340

x=0

+ 4 0.220 + 5 0.080 + 6 0.019 + 7 0.001

= 3.066 Based on information over many Mondays, the average number of students absent on Mondays is 3.066. (e)
var( X ) = E ( X 2 ) [ E ( X )]2

E ( X 2 ) = x 2 f ( x) = 02 0.005 + 12 0.025 + 22 0.310 + 32 0.340

x =0

+ 42 0.220 + 52 0.080 + 62 0.019 + 7 2 0.001 = 10.578

var( X ) = 2 = 10.578 (3.066) 2 = 1.17764 = 2 = 1.0852. (f) E (Y ) = E (7 X + 3) = 7 E ( X ) + 3 = 7 3.066 + 3 = 24.462 var(Y ) = var(7 X + 3) = 7 2 var( X ) = 49 1.17764 = 57.704

Appendix B, Exercise Solutions, Principles of Econometrics, 3e 430

EXERCISE B.11
(a) The probability density function is shown below.

f (x)
1

f ( x)

x
0 1 2

(b) (c)

Total area of the triangle is half the base multiplied by the height; i.e., the area is 0.5 2 1 = 1 When x = 1, f ( x) = f (1) = 0.5.

Then, P ( X 1) is given by the area to the right of 1 which is P ( X 1) = 0.5 1 0.5 = 0.25 (d) When x = 0.5, f ( 0.5 ) = 0.75. 1 P ( X 0.5) = 1 P ( X > 0.5) = 1 1.5 0.75 = 0.4375 2 (e) For a continuous random variable the probability of observing a single point is zero. Thus, P( X = 1.5) = 0 .

Appendix B, Exercise Solutions, Principles of Econometrics, 3e 431

EXERCISE B.12
(a)
X ~ N (0.10,0.042 )

0 0.1 P ( X < 0) = P Z < = P ( Z < 2.5) = 1 0.9938 = 0.0062 0.04 (b) (c) 0.15 0.1 P ( X > 0.15) = P Z > = P ( Z > 1.25) = 1 0.8944 = 0.1056 0.04 Now X ~ N (0.12,0.052 ) 0 0.12 P ( X < 0) = P Z < = P ( Z < 2.4) = 1 0.9918 = 0.0082 0.05 0.15 0.12 P ( X > 0.15) = P Z > = P ( Z > 0.6) = 1 0.7257 = 0.2743 0.05 The calculations show that the probability of a negative return has increased from 0.62% to 0.82%, while the probability of a return greater than 15% has increased from 10.56% to 27.43%. Whether fund managers should or should not change their portfolios depends on their risk preferences.

Appendix B, Exercise Solutions, Principles of Econometrics, 3e 432

EXERCISE B.13
(a)
E ( P) = E ( 0.25 RA + 0.75 RB ) = 0.25E ( RA ) + 0.75 E ( RB )

= 0.25 8 + 0.75 15 = 13.25 (b) var ( P ) = 2 P = var ( 0.25 RA + 0.75 RB ) = 0.252 var ( RA ) + 0.752 var ( RB ) + 2 0.25 0.75 cov ( RA , RB ) Now, =1= Hence, cov( RA , RB ) = A B = 12 22 = 264 var( P ) = 0.252 122 + 0.752 222 + 2 0.25 0.75 264 = 380.25 P = 380.25 = 19.5 (c) When cov( RA , RB ) var( RA ) var( RB )

= 0.5 =

cov( RA , RB ) var( RA ) var( RB )

cov( RA , RB ) = 0.5 A B = 0.5 12 22 = 132 var( P ) = 0.252 122 + 0.752 222 + 2 0.25 0.75 132 = 330.75 P = 330.75 = 18.1865 (d) When = 0 , cov( RA , RB ) = 0 , and the variance and standard deviation of the portfolio are
var( P ) = 0.252 122 + 0.752 222 = 281.25

P = 281.25 = 16.7705

APPENDIX

Exercise Solutions

433

Appendix C, Exercise Solutions, Principles of Econometrics, 3e

434

EXERCISE C.1
(a) A linear estimator is one that can be written in the form Rearranging Y* yields,
2 Y1 + Y2 1 1 1 = Y1 + Y2 = Yi 2 2 2 i =1 2

aiYi

where ai is a constant.

Y* =

Thus, Y* is a linear estimator where ai = 1 2 for i = 1, 2 and ai = 0 for i = 3, 4, , N .

(b)

The expected value of an unbiased estimator is equal to the true population mean.
1 1 1 Y +Y 1 E (Y *) = E 1 2 = E (Y1 ) + E (Y2 ) = + = 2 2 2 2 2

(c)

The variance of Y* is given by

1 Y +Y 1 var (Y *) = var 1 2 = var Y1 + Y2 2 2 2

11 1 1 = var (Y1 ) + var (Y2 ) + 2 cov (Y1 , Y2 ) 22 2 2 1 1 2 = 2 + 2 = , 4 4 2 (d) since cov (Y1 , Y2 ) = 0

The sample mean is a better estimator because it uses more information. The variance of the sample mean is 2 N which is smaller than 2 2 when N > 2 , thus making it a better estimator than Y*. In general, increasing sample information reduces sampling variation.

Appendix C, Exercise Solutions, Principles of Econometrics, 3e 435

EXERCISE C.2
(a)
3 1 1 1 Y = Y1 + Y2 + Y3 = aiYi , where ai are constants for i = 1, 2 and 3. 2 3 6 i =1

(b)

1 1 1 1 1 1 1 1 1 E Y = E Y1 + Y2 + Y3 = E (Y1 ) + E (Y2 ) + E (Y3 ) = + + = 3 6 2 3 6 2 3 6 2

( )

(c)

1 1 1 var Y = var Y1 + Y2 + Y3 3 6 2

( )

1 1 1 var (Y1 ) + var (Y2 ) + var (Y3 ) , 4 9 36

since cov (Y1 , Y2 ) = cov (Y2 , Y3 ) = 0

1 1 1 7 2 = 2 + 2 + 2 = 4 9 36 18 The variance of the sample mean is var (Y ) = 2 2 6 2 = = N 3 18

which is smaller than the variance of Y . (d) (e) Since var Y > var (Y ) , Y is not as good an estimator as Y . The probability that the estimator Y is within one unit on either side of is: 1 Y 1 P 1 Y + 1 = P var (Y ) var (Y ) var (Y ) 1 1 = P Z 3 3 3 3 = P [ 0.577 Z 0.577 ] = 0.436 The probability that the estimator Y is within one unit on either side of is: 1 1 Y 1 1 + = P Y P var Y var var Y Y

( )

( )

( )

( )

1 1 = P Z 7 9 18 7 9 18 = P [ 0.5345 Z 0.5345] = 0.407

Appendix C, Exercise Solutions, Principles of Econometrics, 3e 436

EXERCISE C.3
Let X be the random variable denoting the hourly sales of fried chicken which is normally distributed; X N (2000,5002 ) . The probability that in a 9 hour day, more than 20,000 pieces will be sold is the same as the probability that average hourly sales of fried chicken is greater than 20,000/9 2,222 pieces.
X 2222 P X > 2222 = P N > N 2222 2000 = P Z > 500 9 666 = P Z > 500 = P[ Z > 1.332] = 0.091

Appendix C, Exercise Solutions, Principles of Econometrics, 3e 437

EXERCISE C.4
Let the random variable X denote the starting salary for Economics majors. Assume it is normally distributed; X N (47000,80002 ) .

X 50000 P X > 50000 = P N > N 50000 47000 = P Z > 8000 40 = P[ Z > 2.37] = 1 0.9911 = 0.0089

Appendix C, Exercise Solutions, Principles of Econometrics, 3e 438

EXERCISE C.5
(a) We set up the hypotheses H 0 : 170 versus H1 : > 170 . The alternative is H1 : > 170 because we want to establish whether the mean monthly account balance is more than 170. The test statistic, given H0 is true, is: t= X 170 t( 399 ) N

The rejection region is t 1.649 . The value of the test statistic is t= 178 170 = 2.462 65 400

Since t = 2.462 > 1.649 , we reject H0 and conclude that the new accounting system is cost effective.

(b)

p = P t(399) 2.462 =1 P t(399) < 2.462 = 0.007

Appendix C, Exercise Solutions, Principles of Econometrics, 3e 439

EXERCISE C.6
(a) To decide whether the students are studying on average at least 6 hours per week, we set up the hypotheses H 0 : = 6 versus H1 : > 6 . The test statistic, given H0 is true, is t= X 6 t( 7 ) N 1 8 1 xi = 8 (1 + 3 + 4 + 4 + 6 + 6 + 8 + 12 ) = 5.5 8 i =1 1 8 ( xi X ) 2 = 11.4286 7 i =1

X=

2 = var ( X ) =

t=

5.5 6 = 0.598 11.4286 8

At the 0.05 level of significance, the rejection region is t > 1.895 . Since t = 0.598 < 1.895, we do not reject H0 and therefore cannot conclude that, at the 0.05 level of significance, the students are studying more than 6 hours per week (b) A 95% confidence interval for the population mean number of hours studied per week is: X tc 2 11.4286 = 5.5 1.895 = [3.235, 7.765] N 8

Appendix C, Exercise Solutions, Principles of Econometrics, 3e 440

EXERCISE C.7
(a) To test whether current hiring procedures are effective, we test the hypothesis that H 0 : 450 against H1 : > 450. The manager is interested in workers who can process at least 450 pieces per day. The test statistic, when H0 is true, is t= X 450 t( 49) N

The value of the test statistic is t= 460 450 = 1.861 38 50

Using a 5% significance level at 49 degrees of freedom, the rejection region is t > 1.677. Since 1.861 > 1.677, we reject H 0 and conclude that the current hiring procedures are effective. (b) A type I error occurs when we reject the null hypothesis but it is actually true. In this example, a type I error occurs when we wrongly reject the hypothesis that the hiring procedures are effective. This would be a costly error to make because we would be dismissing a cost effective practice. p-value = (1 P(t(49) < 1.861) ) = (1 0.9656) = 0.0344

(c)

Appendix C, Exercise Solutions, Principles of Econometrics, 3e 441

EXERCISE C.8
The interval estimate of a normally distributed random variable is given by Y zc N , where zc is the corresponding critical value at a 95% level of confidence. The length of the interval is therefore 2 zc

N .

To ensure that the length of the interval is less than 4, derive N as follows: 2 zc <4 N

( zc ) < 2 ( zc )
2

< 4N
2

(1.96 21)

< 4N

423.525 < N A sample size of 424 employees is needed.

Appendix C, Exercise Solutions, Principles of Econometrics, 3e 442

EXERCISE C.9
(a) A sketch of the pdf is shown below.
.5

.4

.3 pdf .2 .1 .0 1 2 y 3 4

(b)

E (Y ) = yi P (Y = yi ) = 1 0.1 + 2 0.2 + 3 0.3 + 4 0.4 = 3

i =1

(c)

var (Y ) = ( yi E (Y ) ) P (Y = yi )
2
i =1

= (1 3) 0.1 + ( 2 3) 0.2 + ( 3 3) 0.3 + ( 4 3) 0.4 = 1

2 2 2 2

(d)

Y +Y +Y Y Y E (Y ) = E 1 2 3 = E 1 + E 2 3 3 3 1 1 1 = E (Y1 ) + E (Y2 ) + E (Y3 ) 3 3 3 1 1 1 = 3+ 3+ 3 = 3 3 3 3 Y +Y +Y var (Y ) = var 1 2 3 3

Y3 + E 3

1 1 1 = var (Y1 ) + var (Y2 ) + var (Y3 ) 9 9 9 1 1 1 1 = 1 + 1 + 1 = 9 9 9 3