ECON 151 Lecture Notes - Lecture 22: Equation, Opportunity Cost, Instrumental Variable
22 Nov 2020
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Document Summary
The structural model is the model of interest. A, ability, is unobserved therefore included in the error term ; A is correlated with s and explains w; A is endogeneous and therefore biases 1 (and 0) A causes the structural model to be biased or non-identified. I is an error term that respect the 0cm assumption i. e. e( |s) = 0. Relevance/first stage assumption: z is strongly correlated with s, i. e. e(s|z) = 0 and possibly as large as possible; Independence/exogeneity assumption: z is not correlated with a, e(z|a) = 0. Si = 0 + 1zi + i (7) > 0 is a test of the relevance assumption . Importantly, the independence/exogeneity assumption cannot be rigorously tested and should be assume or discussed. Typically, iv are rare and hard to identify. Ability is not correlated with the explanatory variable. Ability is not a cause of bias. By assumption, ability is not correlated with the explanatory variable.
