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Decomposition of Variables and Correlated Measurement Errors.

By Saul Lach

Abstract

This paper examines the bias in the OLS estimators when the regressors have measurement errors correlated in a particular manner. When a variable is decomposed into two components but only one of them is observed with error, the induced measurement error in the other component is identical but has the opposite sign. This specific correlation pattern enables us to assess the direction of the bias in the OLS estimators from observed data. In the standard EIV case this would require knowledge of the relative variances of the measurement errors. Examples of this type of decomposition in applied work are presented. Copyright 1993 by Economics Department of the University of Pennsylvania and the Osaka University Institute of Social and Economic Research Association.

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