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Sampling Distribution of OLS Estimator of A Monte Carlo Simulation

This document describes a Monte Carlo simulation to analyze the sampling distribution of the OLS estimator of β2 from a linear regression model. It defines two models that differ in the variance of the error term (σ2). It then generates 1,000 random samples from each model and estimates β2 from each sample. The results show that when the error variance is lower (Model 1), the distribution of the β2 estimates is tighter around the true value of 0.9. But when the error variance is higher (Model 2), the distribution is more spread out.

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80 views3 pages

Sampling Distribution of OLS Estimator of A Monte Carlo Simulation

This document describes a Monte Carlo simulation to analyze the sampling distribution of the OLS estimator of β2 from a linear regression model. It defines two models that differ in the variance of the error term (σ2). It then generates 1,000 random samples from each model and estimates β2 from each sample. The results show that when the error variance is lower (Model 1), the distribution of the β2 estimates is tighter around the true value of 0.9. But when the error variance is higher (Model 2), the distribution is more spread out.

Uploaded by

Amissa Astha
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Download as PDF, TXT or read online on Scribd
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ECONOMICS 351* -- Addendum to NOTE 4 M.G.

Abbott

Addendum to NOTE 4

Sampling Distribution of OLS Estimator of β2

A Monte Carlo Simulation

The True Model: is given by the population regression equation (PRE)

Yi = β1 + β 2 X i + u i = 90 + 0.90 X i + u i (1)

where

β1 = 90.0 and β2 = 0.90;

Yi = weekly consumption expenditures of the i-th household;

Xi = weekly disposable income of the i-th household;

ui = an iid random error term that is assumed to be N(0, σ 2 ) .

Two Alternative Models: specify different values for σ 2 = Var( u i X i ) .

Model 1: sets σ 2 = Var( u i X i ) = 900, σ = Var ( u i X i ) = se( u i X i ) = 30.

Model 2: sets σ 2 = Var( u i X i ) = 32,400, σ = Var ( u i X i ) = se( u i X i ) = 180.

ECON 351* -- Addendum to Note 4 ... Page 1 of 3 pages


ECONOMICS 351* -- Addendum to NOTE 4 M.G. Abbott

The Monte Carlo Simulations

• Set N = 40 observations.

• Set populations values of X, β1 and β2, and σ 2 = Var( u i X i ) .

• Generate 1,000 independent random samples of Yi, Xi and ui values.

• For each of these 1,000 independent random samples, compute the values of the
OLS coefficient estimators:

∑ xy
βˆ 2 = i i 2 i (2)
∑i x i
βˆ = Y − βˆ X
1 2 (3)

where x i ≡ X i − X , y i ≡ Yi − Y , X = ∑ i X i N , and Y = ∑ i Yi N .

• Tabulate the 1,000 estimates of β2, and the 1,000 estimates of β1.

Summary statistics for simulation of Model 1 for which σ 2 = 900, σ = 30:


. summarize

Variable | Obs Mean Std. Dev. Min Max


---------+-----------------------------------------------------
b1ols | 1000 90.12619 10.07493 61.00864 129.009
b2ols | 1000 .8998154 .008213 .8695259 .9269965

Summary statistics for simulation of Model 2 for which σ 2 = 32,400, σ = 180:


. summarize

Variable | Obs Mean Std. Dev. Min Max


---------+-----------------------------------------------------
b1ols | 1000 90.75711 60.44958 -83.94814 324.0542
b2ols | 1000 .8988922 .0492779 .7171556 1.061979

ECON 351* -- Addendum to Note 4 ... Page 2 of 3 pages


ECONOMICS 351* -- Addendum to NOTE 4 M.G. Abbott

∑ xy
• Comparison of Sampling Distributions of βˆ 2 = i i 2 i :
∑i x i

Sampling distribution of OLS estimator of beta2: beta2 = 0.90, N = 40

.7

.6

.5
Fraction

.4

.3

.2

.1

0
.7 .75 .8 .85 .9 .95 1 1.05 1.1
b2ols
Model 1: E(u) = 0, Var(u) = 900, SE(u) = 30, N = 40

Sampling distribution of OLS estimator of beta2: beta2 = 0.90, N = 40

.15

.1
Fraction

.05

0
.7 .75 .8 .85 .9 .95 1 1.05 1.1
b2ols
Model 2: E(u) = 0, Var(u) = 32,400, SE(u) = 180, N = 40

ECON 351* -- Addendum to Note 4 ... Page 3 of 3 pages

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