Yvonne Yang, VP of Finance at Discrete Components, Inc.(DCI), wants a regression model which predicts the average collection period on credit sales.Her data set includes two qualitative variables: sales discount rates (0%, 2%, 4%, and 6%), and total assets of credit customers (small, medium, and large).The number of dummy variables needed for "sales discount rate" in Yvonne's regression model is ________.
A)1
B)2
C)3
D)4
E)7

Question

Quizplus · Accepted Answer

For the "sales discount rate" variable, which has four categories (0%, 2%, 4%, and 6%), three dummy variables are needed. This is because one category can be represented as the absence of all the dummy variables (i.e., when all dummy variables are 0, it represents the omitted category). This approach prevents multicollinearity that would result from including a dummy variable for every category.