UNIVERSITY EXAMINATIONS: 2016/2017

EXAMINATION FOR THE MASTERS OF SCIENCE COMMERCE

MFA 502 ECONOMETRICS 1

DATE: APRIL, 2017 TIME: 3 HOURS

INSTRUCTIONS: Answer Question ONE and any other THREE QUESTIONS

QUESTION ONE
i. Differentiate between homoscedasticity and heteroscedasticity [2 Marks]
ii. The distribution of claim size under a certain class of policy is modelled as a normal
random variable, and previous years’ records indicate that the standard deviation is £120.
a. Calculate the width of a 95% confidence interval for the mean claim size if a sample of
size 100 is available. [3 Marks]
b. Determine the minimum sample size required to ensure that a 95% confidence interval
for the mean claim size is of width at most £10 [3 Marks]
c. Comment briefly on the comparison of the confidence intervals in (a) and (b) with
respect to widths and sample sizes used. [3 Marks]
iii. The production manager of PQR enterprises would like to develop a method for estimating
direct labour cost for small-batch production orders based on the batch size. He has
obtained a random sample of actual direct labour cost which has been recorded for ten
batches. The data was regressed and the following is the output:

Regression Statistics
Multiple R 0.9821
R Square 0.9646
Adjusted R Square 0.9602
Standard Error 16.3753
Observations 10

ANOVA
df SS MS F
Regression 1 58464.79 58464.79 218.03
Residual 8 2145.21 268.15

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 Total 9 60610

Standard P-
Coefficients Error t Stat value
Intercept 37.6037 20.0099 1.8793 0.0970
X Variable 1 11.8422 0.8020 14.7658 0.0000

Required:
(a) Obtain the least-squares regression line relating to labour cost and batch size [2 Marks]
(b) Provide the manufacturer with information on the range within which the estimates are
expected by calculating 95% confidence limits for the regression line. [5 Marks]
(c) Provide the manufacturer with an estimate of the direct labour cost regarding an order
for a batch of 25 units. [1 Marks]
(d) Test the significance of batch size in estimation of direct labour cost. Use a significance
level of 5% [4 Marks]
(e) Is the model statistically significant at 5% significance level given that the F table value
is 3.59? [4 Marks]
(f) Construct a 95% confidence interval for the predictor variable coefficient. [4 Marks]

QUESTION TWO
A development engineer examined the relationship between the speed a vehicle is travelling (in
miles per hour, mph), and the stopping distance (in metres, m) for a new braking system fitted to
the vehicle. The following data were obtained in a series of independent tests conducted on a
particular type of vehicle under identical road
conditions.
Speed of vehicle (x): 10 20 30 40 50 60 70
Stopping distance (y): 5 10 23 34 40 54 75

∑ 𝑋 = 280 ∑ 𝑌 = 241 ∑ 𝑋 2 = 14,000 ∑ 𝑦 2 = 11,951 ∑ 𝑋𝑌 = 12,790

i. Construct a scatterplot of the data, and comment on whether a linear regression is
appropriate to model the relationship between the stopping distance and speed. [5 Marks]
ii. Calculate the equation of the least-squares fitted regression line. [6 Marks]
iii. Calculate a 95% confidence interval for the slope of the underlying regression line, and
use this confidence interval to test the hypothesis that the slope of the underlying
regression line is equal to 1. [7 Marks]
iv. Use the fitted line obtained in part (ii) to calculate estimates of the stopping distance for a
vehicle travelling at 50 mph and for a vehicle travelling at 100 mph.
Comment briefly on the reliability of these estimates. [5 Marks]

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QUESTION THREE
A MSC student analyzing the saving level of an employee using three predictor variable, income
level X 1 , interest rate X 2 and household size X 3 , estimated a multiplicative function
Y   X 11 X 2 2 X 33
Using cross-sectional data obtained from 224 employees, the following estimations were
obtained.
Constant X1 X2 X3
Estimated Coefficient 0.022 1.354 0.133 -0.223
Standard error 0.012 0.502 0.814 0.056
t-statistic 1.833 2.697 0.163 3.982
R-squared = 0.8515

Required:
a. Interpret the coefficients and the value of R-squared. [5 Marks]
b. Test the significance of the independent variables at 5% significance level. [6 Marks]
c. Estimate the savings of an employee whose income is 10,000, has a household of 5, given
that the interest rate is 10. [3 Marks]
d. Show how the above model could be regressed as a linear model [4 Marks]
e. Explain five limitations of regression model used above. [5 Marks]

QUESTION FOUR
In regression modeling, the objective is to estimate a regression model that minimizes on the
squared deviations of the estimated values from the actual values. Consider a regression model
with two predictor variables; 𝑌 = 𝑏0 + 𝑏1 𝑋1 + 𝑏2 𝑋2,
i. using calculus obtain three equations that can be used to estimate the regression
parameter. [15 Marks]
ii. show how Cramer’s rule could be used to solve the equations obtained in (i) above
[8 Marks]

QUESTION FIVE
i. Differentiate between the following terms:
a. Estimate and estimator [2 Marks]
b. Confidence limits and confidence interval [2 Marks]
c. Type I and Type II error. [2 Marks]
ii. Explain three characteristics of a good estimator. [6 Marks]
iii. Write the explicit formula for a generalized linear regression model. Show the matrix
derivation. [5 Marks]
iv. Explain the algorithm in testing for heteroscedasticity [6 Marks]