Answered: Are these conditions must be met for a…

ENGR.ECONOMIC ANALYSIS

14th Edition

ISBN:9780190931919

Author:NEWNAN

Publisher:NEWNAN

Chapter1: Making Economics Decisions

Section: Chapter Questions

Problem 1QTC

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Question

Are these conditions must be met for a Valid instrument?it must be

(1) correlated with the included endogenous variable and

(2) exogenous.

Expert Solution

Step 1

Answer -

Valid Instrument - A valid instrument induces changes in the explanatory variable but has no independent effect on the dependent variable.

Conditions which must be met for a valid instrument

1. correlated with the included endogenous variable - We use valid instrument when there is correlation between the endogenous variable which means we can check the affect variable with out omitting variable due to correlation

2. Exogenous - It is used when an explanatory variable of interest is correlated with the error term.

So, both condition should be met

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