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Question 3. (18 Marks)
Because inflation reduces the purchasing power of the dollar, investors seek investments that will provide protection against inflation; that is, investments that will provide higher returns when inflation is higher. It is frequently stated that ordinary shares provide just such a hedge against inflation. The annual Australian inflation rate (as measured by percentage changes in the consumer price index) and the annual All-Ordinaries Index from 1995 to 2015 are stored in file INFLATION.XLSX (in the course website).
a. Using an appropriate graphical descriptive measure (relevant for time series data) describe the two variables. (1 mark)
b. Use an appropriate plot to investigate the relationship between RATE OF INFLATION and ALL-
ORDINARIES INDEX. Briefly explain the selection of each variable on the X and Y axes and why?
(2 marks)
c. Prepare a numerical summary report about the data on the two variables by including the summary measures, mean, median, range, variance, standard deviation, and coefficient of variation, smallest and largest values, and the three quartiles, for each variable.
(3 marks)
d. Calculate the coefficient of correlation (r) between RATE OF
INFLATION and ALL-ORDINARIES INDEX. Then, interpret it. (2 marks)
e. Estimate a simple linear regression model and present the estimated linear equation. Then, interpret the coefficient estimates of the linear model. (4 marks)
f. Determine the coefficient of determination R2 and interpret it. (2 marks)
g. Test the significance of the relationship at the 5% significance level. (3 marks)
h. What is the value of the standard error of the estimate (se). Then, comment on the fitness of the linear regression model? (1 mark) Marking criteria

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