Econometric Theory/Specification Errors
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Omission of relevant variables
- The omission of relevant variables can cause ßs to be biased, E[ßhat] is not equal to ß; this is a more serious cost than the loss of degrees of freedom from including irrelevant variables.
Inclusion of irrelevant variables
- The cost of including irrelevant variables is a loss of degrees of freedom.
- With every additional explanatory variable, R^2 increases (one should be aware of this so as to not take the increase of R^2 to mean something very good).