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the concurrent development of theory

Theoretical econometricians investigate the properties of existing statistical tests and procedures for estimating unknowns in the model. They also seek to develop new statistical procedures that are valid (or robust) despite the peculiarities of economic data—such as their tendency to change simultaneously. Theoretical econometrics relies heavily on mathematics, theoretical statistics, and numerical methods to prove that the new procedures have the ability to draw correct inferences.

Applied econometricians, by contrast, use econometric techniques developed by the theorists to translate qualitative economic statements into quantitative ones. Because applied econometricians are closer to the data, they often run into—and alert their theoretical counterparts to—data attributes that lead to problems with existing estimation techniques. For example, the econometrician might discover that the variance of the data (how much individual values in a series differ from the overall average) is changing over time.

The main tool of econometrics is the linear multiple regression model, which provides a formal approach to estimating how a change in one economic variable, the explanatory variable, affects the variable being explained, the dependent variable—taking into account the impact of all the other determinants of the dependent variable. This qualification is important because a regression seeks to estimate the marginal impact of a particular explanatory variable after taking into account the impact of the other explanatory variables in the model. For example, the model may try to isolate the effect of a 1 percentage point increase in taxes on average household consumption expenditure, holding constant other determinants of consumption, such as pretax income, wealth, and interest rates.