Lecturer

❖Name: Dr. Trust R. Mpofu

❖Office: Room 5,15, School of Economics Building
❖Office hours: via appointments.
❖Email: [email protected]
Introduction to Econometrics
Lecture 1
 Textbooks
❖Enders, W. (2010), Applied Econometric Time series Analysis, 3rd Edition,
John Willey & Sons:New York.

❖Tsay, R. S. (2005), Analysis of Financial Time Series, 2rd Edition, John Willey
and Sons: New York.
 Lecture Objectives

❖Understand what econometrics means.

❖Differentiate between economic and econometric models.
❖Know different types of data.
❖Understand correlation vs causation
 What is Econometrics?
❖There does not exist a generally accepted answer to this question.
--Econometrics means “economic measurement”
Gujarati (2004) Basic Econometrics, 4th Edition. The McGraw-Hill Companies.

--Econometrics may be defined as the social science in which the tools of

economic theory, mathematics, and statistical inference are applied to the
analysis of economic phenomena.
Goldberger (1964) Econometric Theory, John Wiley&Sons, New York, p1.
 What is Econometrics?
--Econometrics is the study of the application of statistical methods to the
analysis of economic phenomena.
Kennedy (1998) A guide to econometrics.4th Edition. The MIT Press Cambridge Massachusetts.

--Econometrics is based upon the development of statistical methods for

estimating economic relationships, testing economic theories, and evaluating
and implementing government and business policy.
Wooldridge (2002)
 What is Econometrics?
--Econometrics is the application of statistical and mathematical methods to
the analysis of economic data, with a purpose of giving empirical content to
economic theories and verifying them or refuting them.
Maddala (1992) Introduction to Econometrics.2nd Edition. MacMillian Publishing Company.
 The Aims of Econometrics
❖Formulation of econometric models i.e. formulation of economic models in
an empirically testable form.
❖Estimation and testing of these models with observed data.
❖Use of these models for prediction and policy purposes.
 Economic and Econometric Models
❖Economic model
Is a set of assumptions that approximately describes the behaviour of an
economy ( or a sector of an economy)
❖Example
Quantity demanded of a commodity =f(price of the commodity, price of other
commodities, tastes)
 Econometric model
❖Consists of the following:
1.A set of behavioural equations derived from the economic model.
2.A statement of whether there are errors of observation in the observed
variables.
3.A specification of the probability distribution of the disturbances (and errors
of measurement)
 Econometric model
❖Example
(i) The behavioural equation: q = α + βp + ε
Where q is the quantity demanded and p is the price.
Here q and p are the observed variables
ε is the disturbance term.
(ii)A specification of the probability distribution of ε which says that E(ε|p)=0
and that the values of ε for the different observations are independently and
normally distributed with mean zero and variance σ(squared).
 Types of econometrics
❖Econometrics may be divided into two broad categories:
(i)Theoretical econometrics
❖Theoretical econometrics is concerned with the development of appropriate
methods for measuring economic relationships specified by econometric
models.
➢ Leans heavily on mathematical statistics.
➢ It must spell out the assumptions of the method, its properties, and what happens to these
properties when one or more of the assumptions of the method are not fulfilled.
 Types of econometrics
(ii)Applied econometrics
❖Applied econometrics uses the tools of theoretical econometrics to study
some special field(s) of economics and business.
➢E.g. production function (economic growth models), investment function,
demand and supply function, money demand function etc.
 Data

❖Economic data sets come in a variety of types

 1.Cross-sectional data
❖A cross-sectional data set consists of a sample of individuals, households, firms,
cities, states, countries, or a variety of other units, taken at a given point in time.
➢ We can often assume that they have been obtained by random sampling from the underlying
population.
➢ E.g. obtain information on wages, education, experience and other characteristics by randomly
drawing 500 people from the working population. (use surveys for this).
➢ The analysis of cross-sectional data is closely aligned with the applied microeconomics fields e.g.
labour economics, industrial organization, urban economics, demography, and health economics
• Data Set on Wages and Other Individual Characteristics
• obsno wage educ exper female married
• 1 3.10 11 2 1 0
• 2 3.24 12 22 1 1
• 3 3.00 11 2 0 0
• 4 6.00 8 44 0 1
• 5 5.30 12 7 0 1
•
•
•
• 525 11.56 16 5 0 1
• 526 3.50 14 5 1 0
 2.Time series data
❖A time series data set consists of observations on a variable or several
variables over time.
➢ E.g. stock prices, MS, CPI, GDP, Exchange rate, etc.
➢ Unlike the arrangement of cross-sectional data, the chronological ordering of observations
in a time series matters.
➢ Some variables tend to display clear trends.
➢ Data frequency at which the data are collected include: daily, weekly, monthly, quarterly, and
annually.
 3.Panel or Longitudinal data
❖A panel data (or longitudinal data) set consists of a time series for each
cross-sectional members in the data set.
➢The same cross-sectional units (individuals, firms, or countries) are followed
over a given time period.
➢The ordering in the cross-section of a panel data set does not matter.
 Descriptive statistics
❖Mean
❖Variance
❖Skewness
❖Kurtosis
❖Maximum
❖Minimum
 Mean
❖Is the first moment.

❖Is the average value of the series.

❖It measures the central location of the distribution

 Variance
❖It’s the second moment.

❖It measures the variability of a variable.

❖The positive square root of variance is the standard deviation of a variable.

 Skewness
❖Is the third moment.

❖Is a measure of asymmetry of the distribution of the series around its mean.
 Kurtosis
❖It’s the 4th moment.
❖It measures the tail behaviour of a variable relative to the centre of the
distribution.
❖There are three types of kurtosis
➢Mesokurtic (normal distribution)
➢Platykurtic (less than normal)
➢Leptokurtic (more than normal)
 Max and Min
❖Max (maximum) and Min (minimum) are the maximum and minimum values
of the series in the current sample.
Descriptive statistics: DLGDP for SA
8
Series: DRGDP
7 Sample 1995 2023
Observations 28
6
5 Mean 0.022556
Median 0.025109
4 Maximum 0.054524
Minimum -0.063674
3 Std. Dev. 0.023975
2 Skewness -1.618758
Kurtosis 7.126548
1
Jarque-Bera 32.09490
0 Probability 0.000000
-0.06 -0.04 -0.02 0.00 0.02 0.04 0.06
 Correlation vs Causation
Correlation is not Causation
Establishing a causal relationship between key variables is essential for learning from empirical research
(e.g. Interest rates and GDP). It is also an enormous challenge in social science.
Imagine variables x and y are correlated. There can be several reasons for this correlation, which are not
mutually exclusive:
❖ Changes (or variation) in x drive changes (variation) in y: x ⇒ y
❖ Changes in y drive changes in x: x ⇐ y
❖ Correlated through a third variable: Changes in z drive changes x and y: z⇒ x and z ⇒y BUT y⇏x nor x
⇏y
That is, the cause underlying the correlation may be indirect and/or unknown
 Correlation vs Causation

Causation
Causation can be established only when the explanatory variable
is exogenous or when we can exploit exogenous variations of the
endogenous explanatory variable!
 Exogenous vs. Endogenous Variables
Economic Meaning:
Exogenous variables are determined outside of the model, e.g., age, sex, race.
Endogenous variables are determined within the model, i.e., as a simultaneous structural equations
system.
Econometric Meaning:
An explanatory variable x is endogenous if it is correlated with the error terms.
If x is uncorrelated with the error terms, then x is said to be exogenous.
In a model like y = 𝑥β +u, x must be exogenous, i.e. E(u|x) = 0, for unbiased and consistent estimates
of β. This assumption fails in the presence of measurement error, simultaneous equations and omitted
variables in x.