WHAT IS ECONOMETRICS?

What is econometrics is simply answered as the quantitative application of statistical and mathematical models using data to develop theories or test existing hypotheses in economics and to prognosticate future trends from historical data. The real-life data is compared to statistical trials. After that, they contrast the results against the theory or theories which are being tested. It is the statistical and mathematical analysis of economic relationships. Its key feature is to convert qualitative statements into quantitative statements.

There are 2 branches of econometrics: Theoretical econometrics and Applied econometrics.

Theoretical Econometrics is concerned with methods. It is related to mathematical statistics, and it tells about assumptions of a particular method and its properties. It is particularly essential to know when they’re unfulfilled.

Applied Econometrics does what it says, it applies econometric theory to branches within economics, such as unemployment figures, portfolio theory, demand and supply functions, etc. The applied econometrics deals with topics like demand for labor, pricing theory of arbitrage ,production of goods and their productivity, demand for issues related to housing.

Methodology of Econometrics

Econometric research in general involves four stages:

1. The first step is to suggest a theory or hypothesis to start examining a particular piece of data. The explanatory variables in the model are mentioned before-hand, and the sign and/or magnitude of the relationship between every single explanatory variable and the dependent variable are clearly established to avoid any confusion.
2. The second step is to mention a statistical model that apprehends the importance of the theory.
3. The third step involves estimating the unknown variables of the model by using economic data. An appropriate statistical procedure is involved along with an econometric software package to carry out this process.
4. The most important step is proofreading. It basically involves asking the right questions to ourselves. This step checks the expertise in the field.

Main tool of Econometrics

The essential element of econometrics is the linear multiple regression model, because it helps in estimating how a change in one of the explanatory variables affects the working of the model. In modern econometrics, many statistical tools have come to the limelight, but similar linear analysis is still the most routinely used starting point for an analysis.

This is a necessary step because a regression tends to estimate the marginal impact of a specific explanatory variable after taking into account the variance caused by the impact of the other explanatory variables to the model.

Functions of Econometrics

1. The first function of econometrics is to examine or test economic theories or hypotheses laid out by econometricians. For ex: is quantity demanded inversely related to its price?
2. Second function of econometrics is to provide estimated numerical for the variables of economic relationship.
3. Third function of econometrics to predict economical events. This is one of the very essential topics as it helps policy makers to take economically correct action if the rate of unemployment or inflation is predicted to rise in future.

The bottom line is that the world is incomplete without the use of economics. With the use of econometrics, new theories and concepts are made. Econometrics divide the world into many possibilities of conceptualizing new data. Therefore, it is of great essence.