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Chapter 11
Simple Regression
Chap 11-1
Correlation Analysis
Correlation analysis is used to measure
strength of the association (linear relationship)
between two variables
Correlation is only concerned with strength of the
relationship
No causal effect is implied with correlation
Correlation was first presented in Chapter 3
Chap 11-2
Correlation Analysis
The population correlation coefficient is
denoted (the Greek letter rho)
The sample correlation coefficient is
r
where
s xy
s xy
sxsy
(x x)(y y)
n 1
Chap 11-3
H0 : 0
r (n 2)
(1 r )
Chap 11-4
Decision Rules
Hypothesis Test for Correlation
Lower-tail test:
Upper-tail test:
Two-tail test:
H0: 0
H1: < 0
H0: 0
H1: > 0
H0: = 0
H1: 0
-t
r (n 2)
(1 r )
2
/2
-t/2
/2
t/2
has n - 2 d.f.
Chap 11-5
Example 11.1
A research team was attempting to determine if
political risk in countries is related to inflation for
these countries. In this research a survey of
political risk analysis produced a mean political
risk score for each of 49 countries. The sample
correlation between political risk and inflation
was 0.43.
Test the null hypothesis of no correlation
between these quantities against the alternative
of positive correlation.
Statistics for Business and Economics, 7e 2007 Pearson Education, Inc.
Chap 11-6
Introduction to
Regression Analysis
Regression analysis is used to:
Predict the value of a dependent variable based on
the value of at least one independent variable
Explain the impact of changes in an independent
variable on the dependent variable
Dependent variable: the variable we wish to explain
(also called the endogenous variable)
Chap 11-7
Yi 0 1x i i
Where 0 and 1 are the population model
coefficients and is a random error term.
Statistics for Business and Economics, 7e 2007 Pearson Education, Inc.
Chap 11-8
Population
Slope
Coefficient
Independent
Variable
Random
Error
term
Yi 0 1Xi i
Linear component
Random Error
component
Chap 11-9
Yi 0 1Xi i
Observed Value
of Y for Xi
Predicted Value
of Y for Xi
Slope = 1
Random Error
for this Xi value
Intercept = 0
Xi
Statistics for Business and Economics, 7e 2007 Pearson Education, Inc.
X
Chap 11-10
Estimate of
the regression
Estimate of the
regression slope
intercept
y i b0 b1x i
Value of x for
observation i
ei ( y i - y i ) y i - (b0 b1x i )
Statistics for Business and Economics, 7e 2007 Pearson Education, Inc.
Chap 11-11
Chap 11-12
b1
(x x)(y y)
i 1
2
(x
x
)
i
rxy
sY
sX
i 1
b0 y b1x
The regression line always goes through the mean x, y
Statistics for Business and Economics, 7e 2007 Pearson Education, Inc.
Chap 11-13
Chap 11-14
E[ i ] 0 and E[ i ] 2
for (i 1, , n)
Chap 11-15
Interpretation of the
Slope and the Intercept
b0 is the estimated average value of y
when the value of x is zero (if x = 0 is
in the range of observed x values)
Chap 11-16
Chap 11-17
Square Feet
(X)
245
1400
312
1600
279
1700
308
1875
199
1100
219
1550
405
2350
324
2450
319
1425
255
1700
Chap 11-18
Graphical Presentation
House price model: scatter plot
Chap 11-19
Chap 11-20
Excel Output
Regression Statistics
Multiple R
0.76211
R Square
0.58082
Adjusted R Square
0.52842
Standard Error
41.33032
Observations
ANOVA
10
df
SS
MS
F
11.0848
Regression
18934.9348
18934.9348
Residual
13665.5652
1708.1957
Total
32600.5000
Coefficients
Intercept
Square Feet
Standard Error
t Stat
P-value
Significance F
0.01039
Lower 95%
Upper 95%
98.24833
58.03348
1.69296
0.12892
-35.57720
232.07386
0.10977
0.03297
3.32938
0.01039
0.03374
0.18580
Chap 11-21
Graphical Presentation
House price model: scatter plot and
regression line
Slope
= 0.10977
Intercept
= 98.248
Chap 11-22
Interpretation of the
Intercept, b0
house price 98.24833 0.10977 (square feet)
b0 is the estimated average value of Y when the
value of X is zero (if X = 0 is in the range of
observed X values)
Here, no houses had 0 square feet, so b0 = 98.24833
just indicates that, for houses within the range of
sizes observed, $98,248.33 is the portion of the
house price not explained by square feet
Chap 11-23
Interpretation of the
Slope Coefficient, b1
house price 98.24833 0.10977 (square feet)
Chap 11-24
Measures of Variation
Total variation is made up of two parts:
SST
SSR
SSE
Total Sum of
Squares
Regression Sum
of Squares
Error Sum of
Squares
SST (y i y)2
SSR (y i y)2
SSE (y i y i )2
where:
Chap 11-25
Measures of Variation
(continued)
Chap 11-26
Measures of Variation
(continued)
Y
yi
2
SSE = (yi - yi )
_
y
xi
Statistics for Business and Economics, 7e 2007 Pearson Education, Inc.
_
y
X
Chap 11-27
Coefficient of Determination, R2
The coefficient of determination is the portion
of the total variation in the dependent variable
that is explained by variation in the
independent variable
The coefficient of determination is also called
R-squared and is denoted as R2
SSR regression sum of squares
R
SST
total sum of squares
2
note:
0 R 1
Chap 11-28
Examples of Approximate
r2 Values
Y
r2 = 1
r2 = 1
r =1
2
Chap 11-29
Examples of Approximate
r2 Values
Y
0 < r2 < 1
X
Statistics for Business and Economics, 7e 2007 Pearson Education, Inc.
Chap 11-30
Examples of Approximate
r2 Values
r2 = 0
No linear relationship
between X and Y:
r2 = 0
Chap 11-31
Excel Output
Multiple R
0.76211
R Square
0.58082
Adjusted R Square
0.52842
Standard Error
SSR 18934.9348
R
0.58082
SST 32600.5000
2
Regression Statistics
41.33032
Observations
10
ANOVA
df
SS
MS
F
11.0848
Regression
18934.9348
18934.9348
Residual
13665.5652
1708.1957
Total
32600.5000
Coefficients
Intercept
Square Feet
Standard Error
t Stat
P-value
Significance F
0.01039
Lower 95%
Upper 95%
98.24833
58.03348
1.69296
0.12892
-35.57720
232.07386
0.10977
0.03297
3.32938
0.01039
0.03374
0.18580
Chap 11-32
Correlation and R2
The coefficient of determination, R2, for a
simple regression is equal to the simple
correlation squared
R r
2
2
xy
Chap 11-33
Estimation of Model
Error Variance
An estimator for the variance of the population model
error is
n
2
e
i
SSE
s
n2 n2
2
2
e
i1
Chap 11-34
Excel Output
Regression Statistics
Multiple R
0.76211
R Square
0.58082
Adjusted R Square
0.52842
Standard Error
s e 41.33032
41.33032
Observations
10
ANOVA
df
SS
MS
F
11.0848
Regression
18934.9348
18934.9348
Residual
13665.5652
1708.1957
Total
32600.5000
Coefficients
Intercept
Square Feet
Standard Error
t Stat
P-value
Significance F
0.01039
Lower 95%
Upper 95%
98.24833
58.03348
1.69296
0.12892
-35.57720
232.07386
0.10977
0.03297
3.32938
0.01039
0.03374
0.18580
Chap 11-35
small se
large se
Chap 11-36
2
2
(xi x) (n 1)s x
where:
sb1
SSE
se
n2
Chap 11-37
Excel Output
Regression Statistics
Multiple R
0.76211
R Square
0.58082
Adjusted R Square
0.52842
Standard Error
sb1 0.03297
41.33032
Observations
10
ANOVA
df
SS
MS
F
11.0848
Regression
18934.9348
18934.9348
Residual
13665.5652
1708.1957
Total
32600.5000
Coefficients
Intercept
Square Feet
Standard Error
t Stat
P-value
Significance F
0.01039
Lower 95%
Upper 95%
98.24833
58.03348
1.69296
0.12892
-35.57720
232.07386
0.10977
0.03297
3.32938
0.01039
0.03374
0.18580
Chap 11-38
small Sb1
large Sb1
Chap 11-39
Test statistic
b1 1
t
sb1
d.f. n 2
Statistics for Business and Economics, 7e 2007 Pearson Education, Inc.
where:
b1 = regression slope
coefficient
1 = hypothesized slope
sb1 = standard
error of the slope
Chap 11-40
Square Feet
(x)
245
1400
312
1600
279
1700
308
1875
199
1100
219
1550
405
2350
324
2450
319
1425
255
1700
Chap 11-41
H1: 1 0
Coefficients
Intercept
Square Feet
b1
Standard Error
sb1
t Stat
P-value
98.24833
58.03348
1.69296
0.12892
0.10977
0.03297
3.32938
0.01039
b1 1 0.10977 0
t
3.32938
t
sb1
0.03297
Chap 11-42
H1: 1 0
Coefficients
Intercept
Square Feet
d.f. = 10-2 = 8
t8,.025 = 2.3060
/2=.025
Reject H0
/2=.025
Do not reject H0
-tn-2,/2
-2.3060
Reject H0
tn-2,/2
2.3060 3.329
b1
Standard Error
sb1
t Stat
P-value
98.24833
58.03348
1.69296
0.12892
0.10977
0.03297
3.32938
0.01039
Decision:
Reject H0
Conclusion:
There is sufficient evidence
that square footage affects
house price
Chap 11-43
P-value = 0.01039
H0: 1 = 0
H1: 1 0
Coefficients
Intercept
Square Feet
P-value
Standard Error
t Stat
P-value
98.24833
58.03348
1.69296
0.12892
0.10977
0.03297
3.32938
0.01039
Chap 11-44
Standard Error
t Stat
P-value
Lower 95%
Upper 95%
98.24833
58.03348
1.69296
0.12892
-35.57720
232.07386
0.10977
0.03297
3.32938
0.01039
0.03374
0.18580
Chap 11-45
Standard Error
t Stat
P-value
Lower 95%
Upper 95%
98.24833
58.03348
1.69296
0.12892
-35.57720
232.07386
0.10977
0.03297
3.32938
0.01039
0.03374
0.18580
Chap 11-46
MSR
F
MSE
MSR
SSR
k
MSE
SSE
n k 1
Chap 11-47
Excel Output
Regression Statistics
Multiple R
0.76211
R Square
0.58082
Adjusted R Square
0.52842
Standard Error
MSR 18934.9348
F
11.0848
MSE 1708.1957
41.33032
Observations
10
P-value for
the F-Test
ANOVA
df
SS
MS
F
11.0848
Regression
18934.9348
18934.9348
Residual
13665.5652
1708.1957
Total
32600.5000
Coefficients
Intercept
Square Feet
Standard Error
t Stat
P-value
Significance F
0.01039
Lower 95%
Upper 95%
98.24833
58.03348
1.69296
0.12892
-35.57720
232.07386
0.10977
0.03297
3.32938
0.01039
0.03374
0.18580
Chap 11-48
Test Statistic:
H 0 : 1 = 0
MSR
F
11.08
MSE
H 1 : 1 0
= .05
df1= 1
df2 = 8
Decision:
Reject H0 at = 0.05
Critical
Value:
F = 5.32
Conclusion:
= .05
Do not
reject H0
Reject H0
F.05 = 5.32
Chap 11-49
Prediction
The regression equation can be used to
predict a value for y, given a particular x
For a specified value, xn+1 , the predicted
value is
y n1 b0 b1x n1
Chap 11-50
Predictions Using
Regression Analysis
Predict the price for a house
with 2000 square feet:
Chap 11-51
Risky to try to
extrapolate far
beyond the range
of observed Xs
Statistics for Business and Economics, 7e 2007 Pearson Education, Inc.
Chap 11-52