1 MULTIPLE REGRESSION WITH QUALITATIVE INFORMATION DUMMY VARIABLE CLASSIFICATION WITH TWO CATEGORIES Suppose that you have data on the annual recurrent expenditure, COST, and the number of students enrolled, N, for a sample of secondary schools, of which there are two types: regular and occupational. One way of dealing with the difference in the costs would be to run separate regressions for the two types of school. This is unadvisable. N COST Occupational schools Regular schools OCC = 0 Regular school COST = b1 + b2N + u OCC = 1 Occupational school COST = b1 ' + b2N + u DUMMY VARIABLE CLASSIFICATION WITH TWO CATEGORIES Another way of handling the difference would be to hypothesize that the cost function for occupational schools has an intercept b1 ' that is greater than that for regular schools, the marginal cost is the same. Let us define d to be the difference in the intercepts: d = b1 ' – b1 N COST Occupational schools Regular schools b1 b1 ' d