Problem Set 1

Due: in section, (February 9)

Problem 1: Provide short answers for the following questions:
(a) Suppose that X denotes the amount of rainfall in your hometown during a given
month and Y denotes the number of children born in Los Angeles during the same
month. Are X and Y independent? Explain.
(b) An econometrics class has 80 students, and the mean weight is 145lbs. A random
sample of 4 students is selected from class and their average weight is calculated.
Will the average weight in the sample equal 145lbs.? Why or why not? Use this
example to explain why sample average, X , is a random variable.
(c) Suppose that Y1 , Y2 ,.., Yn are i.i.d random variables with N(1,4) distribution.
Sketch the probability density of Y when n = 2. Repeat this for n = 10 and n=100.
What is the relationship between your answer and the Law of Large Numbers?
(d) Explain the difference between sample average and population mean.
(e) Explain the difference between the estimator and estimate. Provide an example of
each.
(f) A population distribution has a mean of 10 and a variance of 16. Determine the
mean and variance of Y from i.i.d sample from this population for (a) n=10; (b)
n=100; (c) n=1000. Relate your answer to the Law of Large Numbers.
Problem 2: Employment Status and College Graduation
The table below gives the joint probability distribution between employment status and
college graduation among those either employed or looking for work (unemployed) in the
working age U.S., based on 1990 U.S. Census.
Joint Distribution of Employment Status and College Graduation in the U.S.
Population Aged 25-64, 1990
Unemployed (Y=0)
Employed (Y=1)
Total
Non-college grads (X=0)
0.045
0.709
0.754
College grads (X=1)
0.005
0.241
0.246
Total
0.050
0.950
1.00
a. Compute E(Y).
b. Calculate E (Y|X=1) and Var (Y|X=0).
c. A randomly selected member of this population reports being unemployed. What
is the probability that this worker is college graduate? A non-college graduate?
d. Are educational achievement and employment status independent? What is the
correlation coefficient between these variables?
XY
e. Use Law of Iterated expectations to compute E{
} . Please show all
( X + Y + 1)
steps of your work.

Problem 3: Hypothesis Testing

Assume that gasoline at an arbitrary gas station is distributed normally, X ~ N (2.10,
0.0252 ). In this problem, upper case letters are random variables.
David, advisor to Baltimores mayor, samples five gas stations, which charge x1 = $2.06,
x2 = $2.10, x3 = $2.14, x4 = $2.16 and x5 = $2.20. The actual observations x1 x5 are
interpreted as realizations of the random variables X1 ,, X5 . Define
1
X = ( X 1 + ..... + X 5 ) (This is also a random variable).
5
1
(Sample mean, realization of random variable)
x = ( x1 + .... + x5 )
5
a. What is the distribution of random variable X ? Remember,
(1) Sums of i.i.d. normal variables are normally distributed;
1
1
(2) E[ ( X 1 + ... + X n )] = ( E[ X 1 ] + ..... + E[ X n ]) ;
n
n
(3) Under independence assumption
1
1
var[ ( X 1 + .... + X n )] = 2 (var[ X 1 ] + ... + var[ X n ])
n
n
b. Test the hypothesis that mean of X is equal 2.1, i.e.
H0 : E[X]=2.1 versus alternative
H1 : E[Xi]2.1
c. The data presented above have been collected in the Northern part of Baltimore.
David is concerned that prices in North Baltimore are systematically higher than
prices in South Baltimore. He collects additional sample from five gas stations in
Southern Baltimore: y1 = $1.76, y2 = $1.81, y3 = $1.94, y4 = $2.06 and y5 = $2.12.
(The actual observations y1 y5 are interpreted as realizations of the random
variables Y1 ,, Y5 .)
Explain how you would test the hypothesis that the means of random variables
representing prices in North and South Baltimore are equal. More specifically,
H0 : E[Xi]=E[Yi] versus the alternative
H1: E [Xi] E [Yi]
.

Problem 3: [You will work on this problem during the STATA Tutorial. No need to
submit the solution.]
Estimating a Relation between Expenditure on Health Care and Income.
This problem is adopted from Ramanathan Introductory Econometrics with
Applications, page 115. Computations should be conducted using the STATA software
package.
The data set is available on the course web-page. It contains the series
EXPHLTH = Aggregate Expenditures (in billions of dollars) per state in 1993
INCOME = Personal Income (in billions of dollars) per state in 1993
a. Compute the following descriptive statistics for EXPHLTH and INCOME:
sample average, sample standard deviation, and the sample correlation coefficient.
b. Compute conditional mean and standard deviation of EXPHLTH conditional on
INCOME > income sample average (which you found in (a)).
c. Create a scatter plot of health expenditures and income (income on x-axis). Do
you see a systematic relationship?