16 Prediction and Estimation
Prediction and Estimation (or Causal Inference) serve distinct roles in understanding and modeling data.
16.1 Prediction
Definition: Prediction, denoted as \(\hat{y}\), is about creating an algorithm for predicting the outcome variable \(y\) from predictors \(x\).

Goal: The primary goal is loss minimization, aiming for model accuracy on unseen data:
\[ \hat{f} \approx \min E_{(y,x)} L(f(x), y) \]

Applications in Economics:
 Measure variables.
 Embed prediction tasks within parameter estimation or treatment effects.
 Control for observed confounders.
16.2 Parameter Estimation
Definition: Parameter estimation, represented by \(\hat{\beta}\), focuses on estimating the relationship between \(y\) and \(x\).

Goal: The aim is consistency, ensuring that models perform well on the training data:
\[ E[\hat{f}] = f \]

Challenges:
 Highdimensional spaces can lead to covariance among variables and multicollinearity.
 This leads to the biasvariance tradeoff (Hastie et al. 2009).
16.3 Causation versus Prediction
Understanding the relationship between causation and prediction is crucial in statistical modeling.
Let \(Y\) be an outcome variable dependent on \(X\), and our aim is to manipulate \(X\) to maximize a payoff function \(\pi(X, Y)\) (Kleinberg et al. 2015). The decision on \(X\) hinges on:
\[ \begin{aligned} \frac{d\pi(X, Y)}{d X} &= \frac{\partial \pi}{\partial X} (Y) + \frac{\partial \pi}{\partial Y} \frac{\partial Y}{\partial X} \\ &= \frac{\partial \pi}{\partial X} \text{(Prediction)} + \frac{\partial \pi}{\partial Y} \text{(Causation)} \end{aligned} \]
Empirical work is essential for estimating the derivatives in this equation:
\(\frac{\partial Y}{\partial X}\) is required for causal inference to determine \(X\)’s effect on \(Y\),
\(\frac{\partial \pi}{\partial X}\) is required for prediction of \(Y\).