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Endogenous variables are variables that are determined by factors within the system being studied, while exogenous variables are those that are determined by factors outside of the system being studied. Endogenous variables are often affected by the internal dynamics of the system, while exogenous variables are often affected by external factors such as the environment, policy changes, etc.
Two variables that can occur in regression models are:
1. Endogenous variables: Variables that are explained by other variables within a model.
2. Exogenous variables: Variables that are not explained by other variables within a model.
When using regression models, researchers are often interested in understanding the relationship between one or more explanatory variables and a .
And in general:
- It’s possible to manipulate endogenous variables to produce some effect in the response variable.
- It’s not possible to manipulate exogenous variables.
The following examples illustrate how to identify endogenous vs. exogenous variables in different regression models.
Example 1: Crop Yield
Suppose a farmer is interested in understanding the factors that affect total crop yield. He collects data and builds the following :
Crop Yield = B0 + B1(Fertilizer) + B2(Type of Soil Used) + B3(Rainfall)
Here is how to identify each variable in the model:
- Crop Yield: This variable is endogenous because it can be explained by fertilizer, type of soil used, and rainfall.
- Fertilizer: This variable is endogenous because its effectiveness is influenced by the type of soil used.
- Type of Soil Used: This variable is endogenous because it is influenced by the type of soil used.
- Rainfall: This variable is exogenous because it is not influenced by the other variables in the model. In other words, the amount of fertilizer used or the type of soil used cannot effect the amount of rainfall in any way.
Example 2: Consumer Spending
Suppose an economist is interested in understanding the factors that affect consumer spending. She collects data and builds the following :
Consumer Spending = B0 + B1(Income) + B2(Investment Returns) + B3(Government Tax Rates)
Here is how to identify each variable in the model:
- Consumer Spending: This variable is endogenous because it can be explained by income, investment returns, and government spending.
- Income: This variable is endogenous because it is affected by government tax rates.
- Investment Returns: This variable is endogenous because it is influenced government tax rates.
- Government tax rates: This variable is exogenous because it is not influenced by the other variables in the model. In other words, the amount that an individual earns in income or earns in investment returns cannot effect the tax rates set by the government in any way.
