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2.2 The nature of the error term

2.2 The nature of the error term The error term is the difference between a realization of the r.v. under study and its expectation (that is, its mean value, which is not known ) It includes: Intrinsic randomness Measurement errors Omitted variables

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2.2 The nature of the error term

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  1. 2.2 The nature of the error term The error term is the difference between a realization of the r.v. under study and its expectation (that is, its mean value, which is not known) It includes: • Intrinsic randomness • Measurement errors • Omitted variables The assumption we make on the error term will allow us to carry out the tests which will determine how good our regression is

  2. 2.3 CLRM Studies the relationship between a dependent var. and one or more independent var. (does not imply causality theory) Hypothesis • Errors cancel • Exogeneity of independent variables • Homoskedasticity • No serial correlation • Normality We assume (it can be tested) “normality”  central limit theorem: whenever N can be increased indefinitely

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