An exogenous variable is one whose value is determined by factors external to the model in which it is included.
The word exogenous refers to something that is formed on the outside of something. From this reference, we can conclude that an exogenous variable is one that is formed outside of a model. We will give an example with the most classic and well-known economic model, that of the law of supply and demand . Suppose we are going to estimate the quantity of cereals offered. To do this, we will use two variables.
O = P + L
O: Is the offer
Q: It is the price
L: It’s the rains
From a theoretical and very simple point of view, changes in price can affect the quantity supplied and, at the same time, the quantity supplied can affect the price. Thus, the price variable is an endogenous variable . However, the thing is different with the rains, why? Because rain is an external (exogenous) variable. That is, the amount of rain can affect the supply but the quantity offered cannot affect the amount of rainfall. The rains are what they are, it forms outside the model. This would be an exogenous variable case.
From the above, we can say that we have two types of variables. Exogenous variables whose value does not depend on the evolution of the model variables. And the endogenous variables, whose value does depend on the evolution of the model variables.
Examples of exogenous variable
Exogenous variables are present in many cases in the economy. External factors that we cannot control and that affect the evolution of the economy. That is, they are variables that are pre-established.
Since the study of exogenous variables is essential, we are going to offer several examples of exogenous variables:
- The height of the boss and the company’s income:Even if we made a model that explains the relationship between the height of the boss and the income of a company, the variable height is an exogenous variable. The height is what it is, it is predetermined and cannot be affected by any model variable.
- Rainfall and lawn growth:The growth of the lawn surely depends on the amount of rainfall, however the growth of the lawn will not cause an increase in rainfall.