Question1.4 (1 mark) In a supply-demand system, a researcher instruments coffee price with milk input cost. This works because milk price: Select one alternative: Is unrelated to price Shifts supply but not demand Is correlated with coffee popularity Shifts demand but not supply ResetMaximum marks: 1 Flag question undefined单项选择题
A
Is unrelated to price
B
Shifts supply but not demand
C
Is correlated with coffee popularity
D
Shifts demand but not supply

Question

Question1.4 (1 mark) In a supply-demand system, a researcher instruments coffee price with milk input cost. This works because milk price: Select one alternative: Is unrelated to price Shifts supply but not demand Is correlated with coffee popularity Shifts demand but not supply ResetMaximum marks: 1 Flag question undefined单项选择题

A

Is unrelated to price

B

Shifts supply but not demand

C

Is correlated with coffee popularity

D

Shifts demand but not supply

BlackTom AI · Accepted Answer

A valid instrument must be correlated with the endogenous regressor (coffee price) but uncorrelated with the error term in the demand equation (i.e., it must not be related to demand shocks such as changes in popularity).

1) Relevant knowledge points and concepts
- Instrumental variables (IV): relevance (Cov(Z, X) ≠ 0) and exogeneity (Cov(Z, ε) = 0).
- Supply-demand identification: a supply-side shock shifts supply, affecting price, whereas a demand-side shock shifts demand, affecting both price and quantity and potentially biasing demand estimates.
- Exclusion restriction: the instrument affects the dependent variable only through its effect on the endogenous regressor.

2) Step-by-step reasoning
- Consider milk input cost as Z and coffee price as X. If milk is an input cost for producing coffee (e.g., milk used in many coffee products), changes in milk cost alter producers’ marginal costs.
- Higher milk cost increases production cost, shifting the coffee supply curve left (supply decreases). That change in supply alters the equilibrium coffee price, so Z is correlated with X (relevance satisfied).
- For exogeneity, milk cost must not influence consumer tastes or other demand-side factors. Milk price is a production/input cost; it plausibly does not directly change consumers’ preference for coffee, so it does not shift demand (exclusion satisfied).

3) Calculations
- Not applicable (no numeric computation required); the logic is conceptual.

4) Why the correct answer is correct
- Because milk price affects the supply side (producers’ costs) and therefore shifts supply but does not plausibly shift demand, it meets both IV requirements and is an appropriate instrument for coffee price.

5) Why other options are incorrect
- "Is unrelated to price": fails relevance—an instrument must be correlated with price.
- "Is correlated with coffee popularity": would violate exogeneity by being related to demand shocks, making the instrument invalid.
- "Shifts demand but not supply": contradicts the economic role of an input cost, which affects supply rather than consumer demand.

6) Conclusion
The reasoning shows milk price shifts supply but not demand, confirming the correct answer: "Shifts supply but not demand."

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