2. Consider the human capital earnings function given by earnings = ß + /31educ.1 + ß2exper + ß3exper + u, j = 1, ..., n, where earnings denote the hourly earnings of an individual and educ and exper denote the years of schooling and experience, respectively. We assume we have obtained a random sample {(earnings, educ,exper)}z1 from the population. The errors {u}1 are i.i.d. normal random variables with zero mean and variance a2 We assume independence between the errors and regressors (i.e., we ignore the usual ability bias problem).
(a) (2 marks) Discuss the rationale for including both exper and exper2 in this model. In your answer be explicit about the expected signs for ß2 and /33.
(b) (2 marks) Discuss briefly how would you test that exper has a significant effect on earnings?
(c) (4 marks) Provide a clear interpretation of the parameter ß. You are told that you can obtain the estimator for ß by running the regression earnings = ß1educ + e, j = 1, ..., n, where earnings and educ are obtained from running a regression of earnings (and educ) on an intercept, exper and exper2. Explain this statement.
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