Explain endogeneity assumptions in regression analysis

Question

Accepted Answer

Endogeneity assumptions in regression analysis refer to the presence of correlation between the independent variables and the error term.

Endogeneity occurs when the independent variables are correlated with the error term in the regression model.
This violates the assumption of exogeneity, which states that the independent variables are not correlated with the error term.
Endogeneity can lead to biased and inconsistent estimates of the regression coefficients.
One way to address endogeneity is through instrumental variables or control functions.
For example, in a study examining the impact of education on income, endogeneity may arise if unobserved factors such as innate ability also affect both education level and income.

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