Demand Estimation

Department of Business Administration
FALL 2010-11
Demand Estimation
by
Assoc. Prof. Sami Fethi
Ch 4 : Demand Estimation
Demand Estimation
To use these important demand relationship in

decision analysis, we need empirically to
estimate the structural form and parameters of
the demand function-Demand Estimation.
Qdx= (P, I, Pc, Ps, T)
(-, + , - , +, +)
The demand for a commodity arises from the consumers
willingness and ability to purchase the commodity.
Consumer demand theory postulates that the quantity
demanded of a commodity is a function of or depends on the
price of the commodity, the consumers income, the price of
related commodities, and the tastes of the consumer. 2
2004, Managerial Economics, Dominick Salvatore 2010/11, Sami Fethi, EMU, All Right Reserved.
Demand Estimation
In general, we will seek the answer for the

following qustions:
How much will the revenue of the firm change

after increasing the price of the commodity?
How much will the quantity demanded of the
commodity increase if consumers income
increase
What if the firms double its ads expenditure?
What if the competitors lower their prices?
Firms should know the answers the
abovementioned questions if they want to
achieve the objective of maximizing thier value.
3
The Identification Problem
The demand curve for a commodity is generally

estimated from market data on the quantity purchased
of the commodity at various price over time (i.e. Time-
series data) or various consuming units at one point in
time (i.e. Cross-sectional data).
Simply joinning priced-quantity observations on a graph
does not generate the demand curve for a commodity.
The reason is that each priced-quantity observation is
given by the intersection of a different and unobserved
demand and supply curve of commodity.
In other words, The difficulty of deriving the demand
curve for a commodity from observed priced-quantity
points that results from the intersection of different and
unobserved demand and supply curves for the
commodity is referred to as the identification problem.
4
In the following demand
The Identification Problem
curve, Observed price-quantity
data points E1, E2, E3, and E4,
result respectively from the
intersection of unobserved
demand and supply curves D1
and S1, D2 and S2, D3 and S3,
and D4 and S4. Therefore, the
dashed line connecting
observed points E1, E2, E3, and
E4 is not the demanded curve
for the commodity. The
derived a demand curve for the
commodity, say, D2, we allow
the supply to shift or to be
different and correct, through
regression analysis, for the
forces that cause demand
curve D2 to shift or to be
different as can be seen at
points E2, E'2. This is done5 by
2004, Managerial Economics, Dominick Salvatore regression
2010/11, Sami Fethi,analysis.
EMU, All Right Reserved.
Demand Estimation: Marketing Research Approaches
Consumer Surveys
Observational Research
Consumer Clinics
Market Experiments
These approaches are usually covered

extensively in marketing courses,
however the most important of these are
consumer surveys and market
experiments.
6
o Consumer surveys: These surveys require the

questioning of a firms customers in an
attempt to estimate the relationship between
the demand for its products and a variety of
variables perceived to be for the marketing
and profit planning functions.
These surveys can be conducted by simply
stopping and questioning people at shopping
centre or by administering sophisticated
questionnaires to a carefully constructed
representative sample of consumers by
trained interviewers.
7
Major advantages: they may provide the

only information available; they can be made
as simple as possible; the researcher can
ask exactly the questions they want
Major disadvantages: consumers may be
unable or unwilling to provide reliable
answers; careful and extensive surveys can
be very expensive.
8
Market experiments: attempts by the

firm to estimate the demand for the
commodity by changing price and
other determinants of the demand for
the commodity in the actual market
place.
9
Major advantages: consumers are in a real

market situation; they do not know that they
being observed; they can be conducted on a
large scale to ensure the validity of results.
Major disadvantages: in order to keep cost
down, the experiment may be too limited so the
outcome can be questionable; competitors could
try to sabotage the experiment by changing
prices and other determinants of demand under
their control; competitors can monitor the
experiment to gain very useful information
about the firm would prefer not to disclose.
10
Purpose of Regression Analysis
Regression Analysis is Used Primarily

to Model Causality and Provide
Prediction
Predict the values of a dependent
(response) variable based on values of at
least one independent (explanatory)
variable
Explain the effect of the independent
variables on the dependent variable
The relationship between X and Y can be
shown on a scatter diagram
11
Scatter Diagram
It is two dimensional graph of plotted points in

which the vertical axis represents values of the
dependent variable and the horizontal axis
represents values of the independent or
explanatory variable.
The patterns of the intersecting points of variables
can graphically show relationship patterns.
Mostly, scatter diagram is used to prove or
disprove cause-and-effect relationship. In the
following example, it shows the relationship
between advertising expenditure and its sales
revenues.
12
Scatter Diagram-Example
Year X Y
1 10 44
Scatter Diagram
2 9 40
3 11 42
4 12 46
5 11 48
6 12 52
7 13 54
8 13 58
9 14 56
10 15 60
13
Managerial Economics 2008/09, Sami Fethi, EMU, All Right Reserved.
Scatter Diagram
Scatter diagram
shows a positive
relationship between
the relevant variables.
The relationship is
approximately linear.
This gives us a rough
estimates of the linear
relationship between
the variables in the
form of an equation
such as
Y= a+ b X
14
Regression Analysis
In the equation, a is the vertical intercept

of the estimated linear relationship and
gives the value of Y when X=0, while b is
the slope of the line and gives an
estimate of the increase in Y resulting
from each unit increase in X.
The difficulty with the scatter diagram is
that different researchers would probably
obtain different results, even if they use
same data points. Solution for this is to
use regression analysis.
15
Regression Analysis
Regression analysis: is a statistical

technique for obtaining the line that best
fits the data points so that all researchers
can reach the same results.
Regression Line: Line of Best Fit
Regression Line: Minimizes the sum of the
squared vertical deviations (et) of each
point from the regression line.
This is the method called Ordinary Least
Squares (OLS). 16
Regression Analysis
Year X Y
In the table, Y1 refers actual or observed
sales revenue of $44 mn associated with
1 10 44 the advertising expenditure of $10 mn in
2 9 40 the first year for which data collected.
3 11 42 In the following graph, Y^1 is the
4 12 46 corresponding sales revenue of the firm
estimated from the regression line for the
5 11 48
advertising expenditure of $10 mn in the
6 12 52 first year.
7 13 54 The symbol e1 is the corresponding
8 13 58 vertical deviation or error of the actual
sales revenue estimated from the
9 14 56
regression line in the first year. This can
10 15 60 be expressed as e1= Y1- Y^1.
17
Regression Analysis
In the graph, Y^1 is
the corresponding
sales revenue of the
firm estimated from
the regression line
for the advertising
expenditure of $10
mn in the first year.
The symbol e1 is the
corresponding
vertical deviation or
error of the actual
sales revenue
estimated from the
regression line in the
first year. This can
be expressed as
e 1 = Y1 - Y ^ 1 .
18
Regression Analysis
Since there are 10

observation points, we
have obviously 10
vertical deviations or
error (i.e., e1 to e10). The
regression line obtained
is the line that best fits
the data points in the
sense that the sum of
the squared (vertical)
deviations from the line
is minimum. This means
that each of the 10 e
values is first squared
and then summed.
19
Simple Regression Analysis
Now we are in a position to calculate

the value of a ( the vertical intercept)
and the value of b (the slope
coefficient) of the regression line.
Conduct tests of significance of
parameter estimates.
Construct confidence interval for the
true parameter.
Test for the overall explanatory power
of the regression. 20
Simple Linear Regression Model
Regression line is a straight line that

describes the dependence of the average
value of one variable on the other
Slope Random Error
Y Intercept Coefficient
Yi X i i
Dependent Independent
Regression
(Response) (Explanatory)
Variable Line Variable
21
Ordinary Least Squares (OLS)
Model: Yt a bX t et

Yt a bX t
et Yt Yt
22
Objective: Determine the slope and

intercept that minimize the sum of
the squared errors.
n n n
t t t t
e 2
t 1
(Y Y ) 2

t 1
(Y
a )2
bX t
t 1
23
Estimation Procedure
n
(X t X )(Yt Y )
b t 1
a Y bX
n
t
( X
t 1
X ) 2
24
Estimation Example
Time Xt Yt Xt X Yt Y ( X t X )(Yt Y ) ( X t X )2
1 10 44 -2 -6 12 4
2 9 40 -3 -10 30 9
3 11 42 -1 -8 8 1
4 12 46 0 -4 0 0
5 11 48 -1 -2 2 1
6 12 52 0 2 0 0
7 13 54 1 4 4 1
8 13 58 1 8 8 1
9 14 56 2 6 12 4
10 15 60 3 10 30 9
120 500 106 30
n 10 n n n
X t 120 Yt 500 (X t X ) 2 30 b
106
3.533
t 1
t 1 t 1 30
a 50 (3.533)(12) 7.60
n n n
X 120 Y 500 (X
X t 12 Y t 50 t X )(Yt Y ) 106
t 1 n 10 t 1 n 10 t 1
25
Estimation Example
n
X t 120
n 10 X 12
t 1 n 10
n n n
Yt 500
X t 120 Y t 500 Y 50
t 1 t 1 t 1 n 10
n
106
(X
t 1
t X ) 30
2
b
30
3.533
(X t X )(Yt Y ) 106 a 50 (3.533)(12) 7.60

t 1 26
The Equation of Regression Line
The equation of the regression line can be

constructed as follows:
Yt^=7.60 +3.53 Xt
When X=0 (zero advertising expenditures), the
expected sales revenue of the firm is $7.60
mn. In the first year, when X=10mn, Y1^=
$42.90 mn.
Strictly speaking, the regression line should be
used only to estimate the sales revenues
resulting from advertising expenditure that are
within the range.
27
Crucial Assumptions
Error term is normally distributed.

Error term has zero expected value
or mean.
Error term has constant variance in
each time period and for all values
of X.
Error terms value in one time
period is unrelated to its value in
any other period.
28
Tests of Significance: Standard Error
To test the hypothesis that b is

statistically significant (i.e.,
advertising positively affects sales),
we need first of all to calculate
standard error (deviation) of b^.
The standard error can be
calculated in the following
expression:
29
Tests of Significance
Standard Error of the Slope Estimate
sb
(Yt Y )
2

e 2
t
(n k ) ( X t X ) 2
(n k ) ( X t X ) 2
30
Example Calculation
Time Xt Yt Yt et Yt Yt et2 (Yt Yt ) 2 ( X t X )2
1 10 44 42.90 1.10 1.2100 4
2 9 40 39.37 0.63 0.3969 9
3 11 42 46.43 -4.43 19.6249 1
4 12 46 49.96 -3.96 15.6816 0
5 11 48 46.43 1.57 2.4649 1
6 12 52 49.96 2.04 4.1616 0
7 13 54 53.49 0.51 0.2601 1
8 13 58 53.49 4.51 20.3401 1
9 14 56 57.02 -1.02 1.0404 4
10 15 60 60.55 -0.55 0.3025 9
65.4830 30
(Y Y ) 2
65.4830 n n n
e (Yt Yt )2 65.4830 (X
t
sb 0.52 2
X ) 2 30
(n k ) ( X X )
t
2
(10 2)(30) t 1
t
t 1 t 1
t
Yt^=7.60 +3.53 Xt =7.60+3.53(10)= 42.90 31

Example Calculation
n n
t t t 65.4830
e 2
t 1
(Y Y ) 2
t 1
n
t
( X
t 1
X ) 2
30
sb
(Yt Y )

2
65.4830
0.52
(n k ) ( X t X ) 2
(10 2)(30)
32
Calculation of the t Statistic
b 3.53
t 6.79
sb 0.52
Degrees of Freedom = (n-k) = (10-2) = 8

Critical Value (tabulated) at 5% level =2.306
33
Confidence interval
We can also construct confidence interval

for the true parameter from the estimated
coefficient.
Accepting the alternative hypothesis that
there is a relationship between X and Y.
Using tabular value of t=2.306 for 5% and
8 df in our example, the true value of b will
lies between 2.33 and 4.73
t=b^+/- 2.306 (sb^)=3.53+/- 2.036 (0.52)
34
Decomposition of Sum of Squares
Total Variation = Explained Variation + Unexplained Variation
(Yt Y ) (Y Y ) (Yt Yt )
2
2 2
35
Decomposition of Sum of Squares
36
Coefficient of Determination
Coefficient of Determination: is defined

as the proportion of the total variation or
dispersion in the dependent variable that
explained by the variation in the
explanatory variables in the regression.
In our example, COD measures how
much of the variation in the firms sales
is explained by the variation in its
advertising expenditures.
37
Coefficient of Determination
R 2Explained Variation

(Y Y )
2
TotalVariation t
(Y Y ) 2
373.84
R 2
0.85
440.00
38
Coefficient of Correlation
Coefficient of Correlation (r): The

square root of the coefficient of
determination.
This is simply a measure of the degree
of association or co-variation that
exists between variables X and Y.
In our example, this mean that
variables X and Y vary together 92% of
the time.
The sign of coefficient r is always the
same as the sign of coefficient of b ^. 39
Coefficient of Correlation
r R 2 with the sign of b
1 r 1
r 0.85 0.92
40
Multiple Regression Analysis
Model:
Y a b1 X 1 b2 X 2 L bk ' X k '
41
Relationship between 1 dependent & 2 or more

independent variables is a linear function
Y-intercept Slopes Random error
Yi X 1i X 2i L k X ki i
Dependent (Response) variable

Independent (Explanatory) variables 42
Y i = 0 + 1X 1i + 2X + i
Y (O b s e rv e d Y )
2i
R esponse 0 i
P la n e
X 2
X 1 ( X 1 i, X 2 i)
Y |X = 0 + 1 X 1i + 2X 2i
43
Too
complicated Ouch!
by hand!
44
Multiple Regression Model: Example

Oil (Gal) Temp Insulation
275.30 40 3
Develop a model for estimating 363.80 27 3
heating oil used for a single family 164.30 40 10
home in the month of January, 40.80 73 6
based on average temperature and 94.30 64 6
amount of insulation in inches. 230.90 34 6
366.70 9 6
300.60 8 10
237.80 23 10
121.40 63 3
31.40 65 10
203.50 41 6
441.10 21 3
323.00 38 3
52.50 58 10
45
Multiple Regression Model: Example
Yi b0 b1 X 1i b2 X 2i L bk X ki
Coefficients
Intercept 562.1510092
Excel Output X Variable 1 -5.436580588
X Variable 2 -20.01232067
Yi 562.151 5.437 X 1i 20.012 X 2i

For each degree increase in For each increase in one inch of
temperature, the estimated insulation, the estimated average use
average amount of heating oil of heating oil is decreased by 20.012
used is decreased by 5.437 gallons, holding temperature
gallons, holding insulation constant.
constant. 46
Adjusted Coefficient of Determination

(n 1)
R 1 (1 R )
2 2
(n k )
SSR
Regression Statistics rY2,12
SST
Multiple R 0.982654757
R Square 0.965610371
Adjusted R Square 0.959878766
Standard Error 26.01378323
Observations 15
47
Interpretation of Coefficient of Multiple Determination
96.56% of the total

variation in heating oil can
SSR be explained by
r 2
Y 12 .9656 temperature and amount
SST of insulation
95.99% of the total
fluctuation in heating oil
can be explained by
2
radj .9599 temperature and amount of
insulation after adjusting
for the number of
explanatory variables and48
2004, Managerial Economics, Dominick Salvatore sample sizeSami Fethi, EMU, All Right Reserved.
2010/11,
Testing for Overall Significance
Shows if Y Depends Linearly on All of the X

Variables Together as a Group
Use F Test Statistic
Hypotheses:
H0: k = 0 (No linear relationship)
H1: At least one i ( At least one independent
variable affects Y )
The Null Hypothesis is a Very Strong Statement
The Null Hypothesis is Almost Always Rejected
49
Analysis of Variance and F Statistic
Explained Variation /(k 1)

F
Unexplained Variation /(n k )
R /(k 1) 2
F
(1 R ) /(n k )
2
50
k = 3, no of Test for Overall Significance
parameters Excel Output: Example
ANOVA
df SS MS F Significance F
Regression 2 228014.6 114007.3 168.4712 1.65411E-09
Residual 12 8120.603 676.7169
Total 14 236135.2
p-value
k -1= 2, the number n-1
of explanatory
variables and
dependent variable
51
Test for Overall Significance:

Example Solution
H0: 1 = 2 = = k = 0
Test Statistic:
H1: At least one j 0
= .05 F 168.47
df = 2 and 12
Critical Value: Decision:

Reject at = 0.05.
= 0.05 Conclusion:
There is evidence that at
least one independent
0 variable affects Y. 52
3.89
t Test Statistic
Excel Output: Example
t Test Statistic for X1

(Temperature)
Coefficients Standard Error t Stat P-value
Intercept 562.1510092 21.09310433 26.65094 4.77868E-12
Temp -5.436580588 0.336216167 -16.1699 1.64178E-09
Insulation -20.01232067 2.342505227 -8.543127 1.90731E-06
bi
t t Test Statistic for X2
Sbi
(Insulation)
53
t Test : Example Solution
Does temperature have a significant effect on monthly
consumption of heating oil? Test at = 0.05.
H0: 1 = 0 Test Statistic:

t Test Statistic = -16.1699
H1: 1 0
Decision:
df = 12
Reject H0 at = 0.05.
Critical Values:
Conclusion:
Reject H 0 Reject H 0 There is evidence of a
.025 significant effect of
.025 temperature on oil
consumption holding
-2.1788 2.1788 constant the effect of
0 insulation.
54
Problems in Regression Analysis
Multicollinearity: Two or more explanatory

variables are highly correlated.
Heteroskedasticity: Variance of error term is not
independent of the Y variable.
Autocorrelation: Consecutive error terms are
correlated.
Functional form: Misspecified by the omission of
a variable
Normality: Residuals are normally distributed or
not
55
Practical Consequences of Multicollinearity
Large variance or standard error

Wider confidence intervals
Insignificant t-ratios
A high R2 value but few significant t-
ratios
OLS estimators and their Std. Errors
tend to be unstable
Wrong signs for regression coefficients
56
Multicollinearity
How can Multicollinearity be overcome?

Increasing number of observation
Acquiring additional data
A new sample
Using an experience from a previous study
Transformation of the variables
Dropping a variable from the model
This is the simplest solution, but the worse
one referring an economic model (i.e., model
specification error)
57
Heteroskedasticity
Heteroskedasticity: Variance of error term is

not independent of the Y variable or
unequal/non-constant variance. This means
that when both response and explanatory
variables increase, the variance of response
variables does not remain same at all levels of
explanatory variables (cross-sectional data).
Homoscedasticity: when both response and
explanatory variables increase, the variance of
response variable around its mean value
remains same at all levels of explanatory
variables (equal variance).
58
Residual Analysis for Homoscedasticity
Y
Y
X X
SR SR
X X
Heteroscedasticity Homoscedasticity
59
Autocorrelation or serial correlation
Autocorrelation: Correlation between

members of observation ordered in
time as in time series data (i.e.,
residuals are correlated where
consecutive errors have the same
sign).
Detecting Autocorrelation: This can be
detected by many ways. The most
common used is DW statistics.
60
Durbin-Watson Statistic
Test for Autocorrelation

n
t t 1
( e e ) 2
d t 2
n
t
e 2
t 1
If d=2, autocorrelation is absent.
61
Residual Analysis for Independence
The Durbin-Watson Statistic

Used when data is collected over time to detect
autocorrelation (residuals in one time period are
related to residuals in another period)
Measures violation of independence assumption
n
i i 1
( e e ) 2
Should be close to 2.
D i 2
n If not, examine the
e
i 1
2
i model for
autocorrelation.
62
Residual Analysis for Independence
Graphical Approach
Not
e
Independent Independe
nt
e
Time Time
Cyclical Pattern No Particular Pattern
Residual is Plotted Against Time to Detect Any Autocorrelation

63
Using the Durbin-Watson Statistic

H0 : No autocorrelation (error terms are independent)
H1 : There is autocorrelation (error terms are not)
Reject H0 Inconclusive Reject H0

(positive (negative
Accept H0
autocorrelation) autocorrelation)
(no autocorrelation)
0 dL dU 2 4-dU 4-dL 4 64
Steps in Demand Estimation
Model Specification: Identify Variables

Collect Data
Specify Functional Form
Estimate Function
Test the Results
65
Functional Form Specifications
Linear Function:
QX a0 a1 PX a2 I a3 N a4 PY L e
Power Function: Estimation Format:
QX a( PXb1 )( PYb2 ) ln QX ln a b1 ln PX b2 ln PY
66
Dummy-Variable Models
When the explanatory variables are

qualitative in nature, these are known
as dummy variables. These can also
defined as indicators variables, binary
variables, categorical variables, and
dichotomous variables such as variable
D in the following equation:
Q x c 0 c1 Px c 2 I c3 D ...... e
67
Categorical Explanatory Variable with 2 or More

Levels
Yes or No, On or Off, Male or Female,
Use Dummy-Variables (Coded as 0 or 1)
Only Intercepts are Different
Assumes Equal Slopes Across Categories
Regression Model Has Same Form
Can the dependent variable be dummy?
68
Given: Yi b0 b1 X 1i b2 X 2i
Y = Assessed Value of House
X1 = Square Footage of House
0 if
X2 = Desirability of Neighbourhood =undesirable
1 if desirable
Desirable (X2 = 1)
Yi b0 b1 X 1i b2 (1) (b0 b2 ) b1 X 1i
Undesirable (X2 = 0)
Same
Yi b0 b1 X 1i b2 (0) b0 b1 X 1i slope
s 69
Simple and Multiple Regression Compared: Example
70
71
72
73
Regression Analysis in Practice
Suppose we have an Employment (Labor

Demand) Function as follows:
N=Constant+K+W+AD+P+WT
N: employees in employment
K: capital accumulation
W: value of real wages
AD: aggregate deficit
P: effect of world manufacturing exports on
employment
WT: the deviation of world trade from trend.
74
Output by Microfit v4.0w
Ordinary Least Squares Estimation

*******************************************************************************
Dependent variable is LOGN
39 observations used for estimation from 1956 to 1994
*******************************************************************************
Regressor Coefficient Standard Error T-Ratio[Prob]
CON 4.9921 .98407 5.0729[.000]
LOGK .040394 .012998 3.1078[.004]
LOGW .024737 .010982 2.2526[.032]
AD -.9174E-7 .1587E-6 .57798[.567]
LOGP .026977 .0099796 2.7032[.011]
LOGWT -.053944 .024279 2.2219[.034]
*******************************************************************************
R-Squared .82476 F-statistic F( 6, 33) 20.8432[.000]
R-Bar-Squared .78519 S.E. of Regression .012467
Residual Sum of Squares .0048181 Mean of Dependent Variable 10.0098
S.D. of Dependent Variable .026899 Maximum of Log-likelihood 120.1407
DW-statistic 1.8538
*******************************************************************************
75
Diagnostic Tests
******************************************************************************
*
* Test Statistics * LM Version * F Version
*
******************************************************************************
*
* * *
*
* A:Serial Correlation *CHI-SQ( 1)= .051656[.820]*F(1,30)=.039788[.843]*
* * *
*
* B:Functional Form *CHI-SQ( 1)= .056872[.812]*F(1,30)=.043812[.836]*
* * *
*
* C:Normality *CHI-SQ( 2)= 1.2819[.527]* Not applicable
*
* * *
*
* D:Heteroscedasticity *CHI-SQ( 1)= 1.0065[.316]*F( 1,37)=.98022[.329]*
******************************************************************************
*
A:Lagrange multiplier test of residual serial correlation

B:Ramsey's RESET test using the square of the fitted values
C:Based on a test of skewness and kurtosis of residuals
D:Based on the regression of squared residuals on squared fitted values
76
Dependent Variable: LOGN

Explanatory Variables
4.9921
CON
(5.07)
0.40394
LOGK (3.10)
0.0247
LOGW (2.25)
-0.9174
AD
(-0.577)
0.0269
LOGP
(2.70)
-0.0539
LOGWT
R2 bar (-2.22)
R2 0.87
0.83
DW 2.16
SER 0.021
X 2
SC .05165[.820]
X 2
FF 05687[.812]
X 2
NORM 1.2819[.527]
X2HET 1.0065[.316]
77
Interpretation
t-test (individual significance)
Lets first see the significance of each
variable;
n=39
k=6 and hence d.f.=39-6=33
=0.05 (our confidence level is 95%).
With =0.05 and d.f.=33, ttab=2.045
Our Hypothesis are:
Ho:s=0 (not significant)
H1: s0 (significant)
This is t- distribution and using this

distribution, you can decide whether
individual t-values (calculated or
estimated) of the existing variables are
significant or not according to the
tabulated t-values as appears in the fig 78
above.
F-test (overall significance)
Our result is F(6,33)=20.8432

k-1=5 and n-k=33
= 0.05 (our confidence level is
95%).
With = 0.05 and F(6,33), the
Ftab=2.34
Our hypothesis are

Ho:R2s=0 (not significant)
H1: R20 (significant)
79
Diagnostic Tests:
Serial Correlation:
Ho:=0(existence of autocorrelation )
H1:0 (no autocorrelation)
Since CHI-SQ(1)=0.051656<
X2=3.841, we reject Ho that
estimate regression does not have
first order serial correlation or
autocorrelation.
80
Functional Form:
Ho:=0 (existence misspecification)
H1: 0 (no of misspecification)
The estimated LM version of CHI-

SQ is 0.0568721 and with = 0.05
the tabular value is X2=3.841.
Because CHI-SQ (1)=0.0568721<
X2=3.841, then we reject the null
hypothesis that there is functional
misspecification.
81
Normality:
Ho:ut=0 (residuals are not

normally distributed)
H1:ut0(residuals are normally
distributed)
Our estimated result of LM version

for normality is CHI-
SQ(2)=1.28191, and the tabular
value with 2 restrictions with =
0.05 is X2=5.991.
Since CHI-SQ(2)=1.28191<
X2=5.991, the test result shows that
the null hypothesis of normality of
the residuals is accepted. 82
Heteroscedasticity:
Ho: yt2= 2 (heteroscedasticity)
H1: yt2 2(homoscedasticity)
LM version of our result for

the heteroscedasticity is CHI-
SQ(1)=1.00651 and table
critical value with 1
restriction with = 0.05 is
X2=3.841. Since CHI-
SQ(1)=1.00651< X2=3.841,
we accept the null hypothesis
that error term is constant
for all the independent
variables. 83
The End
Thanks
84

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Demand Estimation

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Department of Business Administration

To use these important demand relationship in

In general, we will seek the answer for the

How much will the revenue of the firm change

The Identification Problem

The demand curve for a commodity is generally

Demand Estimation: Marketing Research Approaches

These approaches are usually covered

Demand Estimation: Marketing Research Approaches

o Consumer surveys: These surveys require the

Demand Estimation: Marketing Research Approaches

Major advantages: they may provide the

Demand Estimation: Marketing Research Approaches

Market experiments: attempts by the

Demand Estimation: Marketing Research Approaches

Major advantages: consumers are in a real

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Regression Analysis is Used Primarily

It is two dimensional graph of plotted points in

In the equation, a is the vertical intercept

Regression analysis: is a statistical

Since there are 10

Simple Regression Analysis

Now we are in a position to calculate

Simple Linear Regression Model

Regression line is a straight line that

Ordinary Least Squares (OLS)

Ordinary Least Squares (OLS)

Objective: Determine the slope and

Ordinary Least Squares (OLS)

(X t X )(Yt Y ) 106 a 50 (3.533)(12) 7.60

The Equation of Regression Line

The equation of the regression line can be

Error term is normally distributed.

Tests of Significance: Standard Error

To test the hypothesis that b is

Standard Error of the Slope Estimate

Yt^=7.60 +3.53 Xt =7.60+3.53(10)= 42.90 31

Calculation of the t Statistic

Degrees of Freedom = (n-k) = (10-2) = 8

We can also construct confidence interval

Decomposition of Sum of Squares

Total Variation = Explained Variation + Unexplained Variation

Decomposition of Sum of Squares

Coefficient of Determination: is defined

Coefficient of Correlation (r): The

r R 2 with the sign of b

Multiple Regression Analysis

Relationship between 1 dependent & 2 or more

Dependent (Response) variable

Multiple Regression Analysis

Multiple Regression Analysis

Multiple Regression Model: Example

Multiple Regression Model: Example

Yi 562.151 5.437 X 1i 20.012 X 2i

Multiple Regression Analysis

Adjusted Coefficient of Determination

Interpretation of Coefficient of Multiple Determination

96.56% of the total

Testing for Overall Significance

Shows if Y Depends Linearly on All of the X

Multiple Regression Analysis

Analysis of Variance and F Statistic

Explained Variation /(k 1)