Consider the following regression equation: .Which of the following indicates a functional form misspecification in E(y|x)?
A)Ordinary Least Squares estimates equal Weighted Least Squares estimates.
B)Ordinary Least Squares estimates exceed Weighted Least Squares estimates by a small magnitude.
C)Weighted Least Squares estimates exceed Ordinary Least Squares estimates by a small magnitude.
D)Ordinary Least Square estimates are positive while Weighted Least Squares estimates are negative.

Question

Consider the following regression equation:  .Which of the following indicates a functional form misspecification in E(y|x)?
A)Ordinary Least Squares estimates equal Weighted Least Squares estimates. 
B)Ordinary Least Squares estimates exceed Weighted Least Squares estimates by a small magnitude. 
C)Weighted Least Squares estimates exceed Ordinary Least Squares estimates by a small magnitude. 
D)Ordinary Least Square estimates are positive while Weighted Least Squares estimates are negative.

Quizplus · Accepted Answer

A functional form misspecification means that the chosen model is not the true model generating the data. In this case, if the OLS estimates are positive while the WLS estimates are negative, it suggests that the relationship between the dependent variable and the independent variables may not be linear or that there is a problem with heteroscedasticity, and the model may need to be adjusted to better fit the data. A, B, and C do not provide any indication of a functional form misspecification.

Consider the Following Regression Equation