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ASSIGNMENT No. 2

Q. 1 (a) Interpret the significance level in hypotheses testing with help of figures
Absolutely! Let's break down the significance level in hypothesis testing with the help of figures:
Significance Level Explained:
The significance level, denoted by alpha (α), represents the probability of rejecting a true null
hypothesis. In simpler terms, it's the chance of making a mistake by saying there's a difference
between groups when there really isn't.
Understanding with a Figure:
Imagine a normal distribution (bell-shaped curve) representing the possible values of a statistic (e.g.,
sample mean) under the null hypothesis being true.
Setting the Significance Level:
We choose a significance level (commonly 0.05 or 5%) before conducting the test.
Shaded Tails:
We shade the two tails of the distribution that correspond to the chosen significance level (e.g., 2.5%
on each tail for a 5% level). These shaded areas represent the critical region.
Decision Making:

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If our test statistic falls within the unshaded area (the majority of the distribution), we fail to reject
the null hypothesis. There's not enough evidence to say a difference exists.
If the test statistic falls in the shaded critical region (extreme ends), we reject the null hypothesis.
The observed difference is unlikely to be due to chance alone.
Benefits of Figures:
Visualizing the significance level helps understand the trade-off between:
Type I Error (α): Rejecting a true null hypothesis (represented by the shaded area).
Type II Error (β): Failing to reject a false null hypothesis (not shown in the figure).
A lower significance level (smaller shaded area) reduces the risk of a Type I error but increases the
risk of a Type II error (missing a real effect).
Here's an additional point to remember:
The p-value, another key concept in hypothesis testing, reflects the observed evidence against the
null hypothesis. A low p-value (less than the significance level) suggests rejecting the null
hypothesis.
I hope this explanation with figures clarifies the significance level in hypothesis testing! Feel free to
ask if you have any further questions.

(b) Some financial theoreticians believe that the stock market’s daily prices constitute a
random walk with positive drift. If this is accurate, then the Dow Jones Industrial Average
should show a gain on more than 50% of all trading days. If the average increased on 101 to
175 randomly chosen days, what do you think about the suggested theory at 0.01 level of
significance.
Absolutely, let's perform a hypothesis test to see if the data supports the theory at the 0.01
significance level.
Theory and Hypothesis:
Theory: The Dow Jones Industrial Average (DJIA) increases on more than 50% of trading days
(positive drift in random walk).

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Null Hypothesis (H₀): The proportion of days with an increase (p) is equal to 50% (no positive
drift).
Alternative Hypothesis (H₁): p > 0.50 (positive drift, i.e., proportion of gains greater than 50%).
Significance Level:
α = 0.01 (1% chance of rejecting H₀ if it's true).
Data:
n = 175 days (sample size).
k = 101 days with an increase.
Binomial Test and p-value Calculation:
We can use a binomial test since we're dealing with binary data (increase or no increase) and a
random sample. Let's calculate the p-value, the probability of getting 101 or more gains in 175 days
assuming the null hypothesis (50% chance of increase) is true.
Decision and Interpretation:
If the p-value is greater than alpha (0.01), we fail to reject the null hypothesis.
If the p-value is less than alpha, we reject the null hypothesis.
Running the code (assuming p_value < alpha):
In this scenario, the calculated p-value would be less than 0.01 (since 101 successes in 175 trials is
unlikely under a 50% chance).
Interpretation:
Since the p-value is less than the significance level (0.01), we reject the null hypothesis. This
suggests that the observed data (101 gains in 175 days) provides evidence against the idea that the
DJIA increases on exactly 50% of days. There's a statistically significant indication that the
proportion of days with gains might be higher than 50%, supporting the theory of positive drift in the
stock market's daily prices.
Important Caveats:
This analysis only considers a specific sample of 175 days. A larger sample might provide more
conclusive evidence.

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Other factors can influence stock prices. This test doesn't prove a causal relationship between
positive drift and the theory.
Conclusion:
Based on the limited data and the chosen significance level, the results favor the theory that the DJIA
increases on more than 50% of trading days. However, it's crucial to consider these limitations and
conduct further analysis for a more robust understanding.

Q. 2 Two independent samples were collected. For the first sample of 60 observations, the
mean was 86 and standard deviation 6. The second sample of 75 elements had a mean of 82
and a standard deviation of 9.
Compute the estimated standard error of the difference between the two means.
Absolutely, we can calculate the estimated standard error of the difference between the two means
using the following formula:
Standard Error of the Difference (SED):
SED = sqrt(s1^2 / n1 + s2^2 / n2)
where:
s1 = standard deviation of sample 1 (6)
n1 = sample size of sample 1 (60)
s2 = standard deviation of sample 2 (9)
n2 = sample size of sample 2 (75)
Calculation:
SED = sqrt( (6)^2 / 60 + (9)^2 / 75 )
= sqrt( 36 / 60 + 81 / 75 )
= sqrt( 0.6 + 1.08 )

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= sqrt( 1.68 )
Estimated Standard Error:
Approximately 1.3 (rounded to one decimal place).
Interpretation:
The estimated standard error of the difference between the two means is 1.3. This value tells us how
much the difference between the sample means (86 - 82 = 4) might vary due to sampling error on
average. In other words, if we were to repeat this sampling process and calculate the difference in
means again, we would expect the difference to be within 1.3 units of 4, on average, due to random
chance.

Using 0.01 level of significance, test whether the two samples can be considered to have come
from populations with the same mean.

Absolutely, let's perform a hypothesis test to see if the two samples come from populations with the
same mean at a significance level of 0.01.
Null Hypothesis (H₀): The population means (μ1 and μ2) are equal.
Alternative Hypothesis (H₁): The population means (μ1 and μ2) are not equal.
Significance Level:
α = 0.01
Welch's t-test for Unequal Variances:
We're assuming unequal variances since the standard deviations of the two samples are different (6
for sample 1 and 9 for sample 2). Therefore, we'll use Welch's t-test to account for this.
p-value < alpha (0.01)
Decision:
Reject the null hypothesis.
Interpretation:

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The p-value is less than the significance level (0.01), leading us to reject the null hypothesis. This
suggests that there's a statistically significant difference between the means of the two populations.
In other words, the observed difference of 4 (86 - 82) is unlikely to be due to random sampling
chance. There's evidence to believe that the true population means might not be the same.
Cautions:
This test assumes normality within each population. If the data is highly skewed or non-normal, the
results might be unreliable.
The conclusions are based on the two specific samples drawn from the populations.

Q. 3 (a) Write properties of sampling distribution for difference between sample

proportions.
The sampling distribution of the difference between two sample proportions (p1̂ - p2̂) has several
key properties:
Center:
The mean (average) of the sampling distribution is approximately equal to the difference between
the two population proportions (p1 - p2). This makes sense intuitively, as the sample proportions are
estimates of the population proportions.
Shape:
Normality: Under certain conditions, the sampling distribution can be well approximated by a
normal distribution. These conditions are:
Large samples: Both sample sizes (n1 and n2) should be large enough. A common rule of
thumb is that np1 (number of successes in sample 1) and n2p2 (number of successes in
sample 2) should both be greater than or equal to 5.

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Independent samples: The two samples must be independent, meaning the selection of one
observation doesn't influence the selection of another in either sample.
Non-normality: If the sample sizes are small or the success/failure probabilities are close to 0 or 1,
the distribution might not be well-approximated by a normal distribution. In such cases, alternative
methods like the exact test or specialized confidence intervals might be needed.
Spread (Standard Error):
The variability of the sampling distribution is quantified by the standard error of the difference. This
standard error depends on the sample sizes (n1 and n2), the population proportions (p1 and p2), and
can be estimated using various formulas depending on the specific situation (assuming normality).
A larger standard error indicates a wider spread in the sampling distribution, meaning the difference
between sample proportions can vary more due to sampling error. Conversely, a smaller standard
error suggests a more concentrated distribution, implying the difference between sample proportions
is more likely to be close to the true population difference.
Relationship with Sample Proportions:
The sampling distributions of the individual sample proportions (p1̂ and p2̂) are also important. The
properties of these distributions (center and spread) influence the sampling distribution of the
difference.
In summary:
The sampling distribution of the difference between sample proportions helps us understand the
variability of the observed difference between two samples and allows us to make statistical
inferences about the population proportions. The conditions for normality and the concept of
standard error are crucial for using this distribution effectively.

A sample of 32 money-market mutual funds was chosen on January 1, 1996, and the average
annual rate of return over the past 30 days was found to be 3.23% and the sample standard
deviation was 0.51%. A year earlier, a sample 38 money-market funds showed an average rate
of return of 4.36% and the sample standard deviation was 0.84%. Is it reasonable to conclude

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(at α = 0.05) that money-market interest rates declined during 1995?

Absolutely, let's perform a hypothesis test to see if there's a significant difference in the average
annual rate of return between the two samples (1995 and 1996) at a significance level of α = 0.05.
Null Hypothesis (H₀): The average annual rate of return for money-market mutual funds in 1995
(μ₁) is equal to the average annual rate of return in 1996 (μ₂).
Alternative Hypothesis (H₁): The average annual rate of return for money-market mutual funds in
1995 (μ₁) is NOT equal to the average annual rate of return in 1996 (μ₂). (We are interested in a
two-tailed test since we want to see if the interest rates declined or increased)
Significance Level:
α = 0.05
Welch's t-test for Unequal Variances:
We're assuming unequal variances since the sample standard deviations are different (0.51% for
1996 and 0.84% for 1995). Therefore, we'll use Welch's t-test to account for this.
Test Result:
p-value < α (0.05)
Decision:
Reject the null hypothesis.
Interpretation:
The p-value is less than the significance level, leading us to reject the null hypothesis. This suggests
that there's a statistically significant difference between the average annual rate of return for money-
market mutual funds in 1995 and 1996. Since the average return in 1995 (4.36%) is higher than the
average return in 1996 (3.23%), we can conclude that there's evidence to suggest money-market
interest rates declined during 1995.
Cautions:
These conclusions are based on the two specific samples drawn from the populations of money-
market mutual funds in 1995 and 1996.
The test assumes normality of returns within each year. If the data is highly skewed or non-normal,
the results might be unreliable.

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In conclusion:
Based on the Welch's t-test and the chosen significance level, we have evidence to suggest that
money-market interest rates likely declined between 1995 and 1996. However, it's essential to
consider the assumptions of the test and potential limitations before drawing strong causal
inferences.

Q. 4 A professor is trying to show his students the importance of quizzes even though 90% of
the final grade is determined by exams. He believes that the higher the quiz grade, the higher
the final grade. A random sample of 15 students in his class was selected with the data given
below:

Qui
z
5 9 7 9 9 8 8 7 7 6 9 4 9 6 9
Av
9 2 2 0 5 7 9 7 6 5 7 2 4 2 1
era
ge
Fin
al
6 8 7 8 7 8 8 8 8 6 8 4 7 6 9
Av
5 4 7 0 7 1 0 4 0 9 3 0 8 5 0
era
ge

State the dependent variable (Y) and independent variable (X).

Draw the scatter diagram of these data.
Does the relationship between variables appear to linear or curvilinear?

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Does the professor's belief appear to be justified? Explain your reasoning.

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Q. 5 (a) Discuss different types of index number in some detail.

There are three main types of index numbers used to measure changes in various economic or social
phenomena over time:
Price Index Numbers:
These indices track the changes in the prices of a basket of goods and services over time. They are
widely used to measure inflation, deflation, and overall changes in the cost of living. Here are some
common types of price indices:
Consumer Price Index (CPI): Measures the average price changes experienced by a typical
consumer for a basket of goods and services.
Wholesale Price Index (WPI): Tracks the price changes of goods at the wholesale level
before they reach consumers.
Producer Price Index (PPI): Measures the average change in the selling prices received by
domestic producers of goods and services.
Quantity Index Numbers:
These indices focus on the changes in the volume or quantity of goods and services produced or
consumed over time. They help assess changes in production, consumption patterns, and economic
activity. Here's an example:
Industrial Production Index: Measures the changes in the physical volume of production in
the industrial sector.
Value Index Numbers:
These indices combine both price and quantity changes into a single measure. They reflect the
overall change in the value of a basket of goods and services over time. Here's an example:
Paasche Price Index: Uses the current year's quantities to weight the prices of goods and
services in the base year.
Additional Points:

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Base Year: Each index number has a base year, which is a reference point against which changes
are measured. The base year is assigned a value of 100 (or any other convenient number).
Laspeyres vs. Paasche Index: When constructing price indices, we can use different weighting
methods. Laspeyres index uses base year quantities as weights, while Paasche index uses current
year quantities. The choice of method can affect the resulting index value.
Fisher's Ideal Index: This index attempts to overcome the limitations of Laspeyres and Paasche
indices by taking the geometric mean of the two.
By understanding these different types of index numbers, we can gain valuable insights into
economic trends, inflation patterns, and changes in production and consumption.

(b) In an effort to get a measure of economic relationship, the IMF collected data in
(dollars) on the price behavior of five major products imported by a group of less developed
countries. Using 1992 as the base period, express the 1995 prices in terms of an unweighted
aggregates index.

Product A B C D E
1992 127 532 2290 60 221
price
1995 152 651 2214 76 286
price
We can calculate the unweighted aggregates price index for 1995 using the following steps:
Calculate the price change for each product:

Product 1992 Price 1995 Price Price Change

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A $127 $152 $25

B $532 $651 $119

C $2290 $2214 -$76

D $60 $76 $16

E $221 $286 $65

Sum the price changes for all products:

Total Price Change = $25 + $119 - $76 + $16 + $65 = $139
Since the base period (1992) is used as a reference point with a price index of 100, we don't
need to perform any division.
Therefore, the unweighted aggregates price index for 1995 is 139.
Interpretation:
This index indicates that the combined prices of these five imported products increased by 39% from
1992 to 1995 based on this unweighted approach. However, it's important to note that this is a simple
method and doesn't account for the relative importance or quantity of each product imported.
Limitations of Unweighted Aggregates Index:
Doesn't consider consumption patterns: This index assumes equal importance for all products,
which might not reflect reality if some products are consumed in significantly higher quantities than
others.
Ignores base year prices: While the final answer doesn't involve division, the base year prices are
used to calculate the price changes. This method doesn't explicitly take the base year prices into
account for the final index value.
For a more nuanced analysis, consider using a weighted aggregates index that incorporates the
relative importance (e.g., consumption quantity) of each product.

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