3305AFE - Applied Econometrics and Heteroskedasticity Case Study - Economics Assignment Help

Assignment Task

Question 1 

A researcher on the economics of innovation is interested in the country-level factors that predict R&D (Research and Development) investment. To study this, they take data on 27 OECD countries and regress R&D investment (as a percentage of GDP) against economic output (measured as the log of GDP), and educational attainments (the fraction of young people that have some tertiary education).

The following regression equation is used to model the relationship. Here y denotes the fraction of expenditure on R&D and ????1 and ????2 are the GDP and educational variables respectively. ????=????0+????1????1+????2????2+????

The economist is worried that the error term from this model might be ‘heteroskedastic’. Give a brief definition/description of heteroskedasticity and explain why it is a problem for regression models such as this.

A plot of the residual terms against the log of real GDP is given below in Figure 1. On the basis of this graph, what would you conclude about the error variance in your model? What problems would it raise for your estimation? Discuss.

The paper has the structure given below.

Q1. Heteroskedasticity

Q2. Autocorrelation and dynamic models

Q3. Dummy variables

Q4. Instrumental variable estimation

Q5. Non-stationary time-series

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