Consider the simple linear regression Y = a + b*X + u

a) What is meant by the statement that "X is endogenous" and what are TWO possible causes of this problem?

b) What are the consequences of endogeneity?

c) Explain what an instrumental variable is, and provide a clear explanation of what conditions must be met for Z to be a valid IV for X.

d) Explain how we can or cannot tell if each of these conditions is met.

e) Provide the formula for the IV estimator (in a regression of Y on X using Z as an instrument for X) and explain carefully how 2SLS implements the IV estimator.

f) Explain how IV can be used to deal with the problem of omitted variable bias. Where might we look for appropriate instruments? Provide a concrete example.