Question

The average wage depends on ability and years of education (S) as follows:

W = $50,000 + $5,000S for more able individuals W = $30,000 + $5,000S for less able individuals

In addition, S=10 for more able individuals and S=5 for less able individuals.

a) Do employers discriminate based on the years of education? b) Based on the observed difference in the average wage between more and less able individuals, what is the implied return per year of education? How is this different from the actual return per year of education? c) What is an instrumental variable? Explain how using an instrumental variable can help you identify the actual return per year of education even if you can’t observe the ability of individuals.

Answer 1

given data:

W=$50,000+$5000S (more able individuals, where S=10), so W= 50,000+ 5000*10=100000

W=$30,000+$5000S (less able individuals, where S=5), so W= 30000+ 5000*5= 55000

a) the employer discriminates the wage on the basis of the year of education. the year of education shows the experience and decision-making capability of a worker more compared to the less educated one. they can work hard but highly educated people can work smart.

b) the implied return may only find the onscreen difference like the difference between the two average wage rates. it shows the difference maybe look like double but in implied part, it is not.

c) the actual rate of difference can be calculated by taking the causal inference and selected variable with the help of statistical tools.

d)techniques that under some conditions, could estimate causal effects on non-experimental observable data. One technique is the instrumental-variables (IVs) approach. This approach is used to determine variation that is exogenous in treatment and to estimate causal inferences.

we can derive the ability of a of a individual by deriving the causal inference. here the estimated variables need to be choosen very carefully.