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Importance of Functional Form in the Estimation of Welfare (The)



Researchers have recognized the central role that the choice of functional form has on estimates of consumer surplus. The purpose of this paper is to quantify the magnitude of errors which might arise from the use of incorrect functional forms. It describes a simulation experiment where estimated consumer surplus, based on simulated data sets, is compared with consumer surplus computed directly from the simulated data. The errors resulting from the use of mismatching functional forms range from approximately 4 percent to 107 percent.

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