Baruch College, CUNY ECO -Term Project An exercise in macroeconomics:

Term Project An exercise in macroeconomics: Recall that in ECO 1002 or any other intro macro, total consumption expenditure is a function of disposable income (or after-tax income). Specifically, we have: Consumption = a constant + (marginal propensity to consume) * (disposable income), and ‘marginal propensity to consume’ is a fixed unknown number. The constant term in the above equation is often assumed to be zero but here, we take a more general assumption that the constant can be any number but the number is unknown to us. Note that the above equation as taught in econ theory has no random term in it. The following data (sample) is obtained from a government publication, Economic Report of the President: Year Disposable Income Consumption 1970 751.6 672.1 1971 779.2 696.8 1972 810.3 737.1 1973 864.7 767.9 1974 857.5 762.8 1975 874.9 779.4 1976 906.8 823.1 1977 942.9 864.3 1978 988.8 903.2 .7 927.6The above numbers are in billions of 1972 dollars, i.e., they are adjusted for inflation (or computed using 1972 prices) which means they are real GDP and real consumption. Suppose we are interested in the value of the marginal propensity to consume in the above consumption function. Please estimate its value with the above data and describe your model, estimation procedure and result in a written report to me (due on the final exam day). Your report should include the following: (a) Specify the statistical model that you are going to use. If it is a linear model, which variable (consumption or income) is the dependent variable and which is the independent variable? Which quantity/notation in the model is the marginal propensity to consume? Answer: We will be using as statistical model, Y=B1+B2*X. As a linear model, our dependednt variable is “Personal Consumption and independednt variable is “ Disposable Income”. The marginal propensity is B2 for this model. B2 is known as the slope parameter. (b) Find the estimate for the marginal propensity to consume by running a regression in Excel (or other software of your choice). You must submit your regression output/printout from Excel (or another program that you choose SUMMARY OUTPUT Regression Statistics Multiple R 0. R Square 0. Adjusted R Square 0. Standard Error 8. Observations 10 ANOVA df SS MS F Significance F Regression 1 64435...9172 1.28028E-09 Residual 8 537. 67. Total 9 64972.121 2 This study source was downloaded by from CourseH on :36:37 GMT -05:00 This study resource was shared via CourseH Coefficients Standard Error t Stat P-value Lower 95% Upper 95% Lower 95.0% Upper 95.0% Intercept -67. 27. -2. 0. - 131. -3. - 131.942 8616 - 3. Disposal income 0. 0. 30. 1.28E-09 0. 1. 0.90638 0896 1. RESIDUAL OUTPUT Observation Predicted Consumption Residuals 1 668. 3. 2 695. 1. 3 725. 11. 4 779. -11. 5 772. -9. 6 789. -9. 7 820. 2. 8 855. 8. 9 900. 2. 10 927. 0. (c) Is the estimate in part (b) the (true) value of the marginal propensity to consume? Explain. Is the estimate in part (b) close to the true value of the marginal propensity to consume? Explain. Also, can you tell from your estimate, what is the true value of the marginal propensity to consume? Answer: No, it is not true in the marginal propensity to consume as is only an estimate. Estimate is a random variable that changes from sample to sample. The marginal propensity to consume is an unknown fixed number. According to the Law of Large Numbers(LLN), the estimate can be close to the true value with probability close to 1. LLN provides an estimate very close to the true value with a probability close to 1. Our sample is small, therefore it is not possible to apply this law, so we can not find the true value of the marginal propensity to consume. 3