# where t—statistics are in parentheses. Econometrician A’s naive interpretation of the results are: . consumers have money illusion . consumption contains a linear trend . the marginal propensity to consume

where t—statistics are in parentheses. Econometrician A’s naive interpretation of the

results are: . consumers have money illusion . consumption contains a linear trend

. the marginal propensity to consume is 0.28 . past consumption is useful for predicting future consumption (a) In light of the results on regressions with integrated variables, critically evaluate

the results given by econometrician A. Now suppose econometrician B, who is more familiar with modern time series

methods than econometrican A, runs the following regressions 0n the same data Estimated Equation 32 Durbm—Watson C: = 0.51 + 094 _ Y; 0.93 1.88

(2.60) (—2.74 C: = 0.45 + 0.97_ Ll _ 0.01 _ OLE 0.94 2.01

(2.52) (11.7 (-0-13) Ct = 0.41 + 1.03 _ t_1 _ 0.07 _ Yt_1 0.94 1.97

(2.36) (14.3) (-0-97) 0: = 0.47 + 0.95 _ C"Ll + 0.004 _ FLl + 0.00 _ APLl 0.94 2.00

(2.24) (45.0) (0-17) (0-87) where t—statistics are in parentheses (note: for thefirst regression the t—statistic is for

testing the hypothesis that the true codﬁcient on Y: is equal to one and not zero).

Based on the above results, econometrician B concludes . Hall’s interpretation of the permanent income model is largely correct . the marginal propensity to consume is less than 1 (b) In light of the results on regressions with integrated and cointegrated variables,

critically evaluate econometrician B’s interpretation of the above results. Question 3. This question is based on King and Watson’s 1995 Fed Review paper

"Testing Long-Run Neutrality", which is available on the class syllabus page. You

Will find it particularly useful to look at the Appendix to this paper before answering

the following questions.

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