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Instrumental Variable Estimation of Dynamic Linear Panel Data Models with Defactored Regressors under Cross-sectional Dependence

Author

Listed:
  • Sarafidis, Vasilis
  • Yamagata, Takashi
Abstract
This paper develops an instrumental variable (IV) estimator for consistent estimation of dynamic panel data models with error cross-sectional dependence when both N and T, the cross-section and time series dimensions respectively, are large. Our approach asymptotically projects out the common factors from regressors using principal components analysis and then uses the defactored regressors as instruments to estimate the model in a standard way. Therefore, the proposed estimator is computationally very attractive. Furthermore, our procedure requires estimating only the common factors included in the regressors, leaving those that influence the dependent variable solely into the errors. Hence aside from computational simplicity the resulting approach allows parsimonious estimation of the model. The finite-sample performance of the IV estimator and the associated t-test is investigated using simulated data. The results show that the bias of the estimator is very small and the size of the t-test is correct even when (T,N) is as small as (10,50). The performance of an overidentifying restrictions test is also explored and the evidence suggests that it has good power when the key assumption is violated.

Suggested Citation

  • Sarafidis, Vasilis & Yamagata, Takashi, 2010. "Instrumental Variable Estimation of Dynamic Linear Panel Data Models with Defactored Regressors under Cross-sectional Dependence," MPRA Paper 25182, University Library of Munich, Germany.
    • Handle: RePEc:pra:mprapa:25182
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    File URL: https://mpra.ub.uni-muenchen.de/25182/1/MPRA_paper_25182.pdf
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    References listed on IDEAS

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    Cited by:

    1. Vasilis Sarafidis & Tom Wansbeek, 2012. "Cross-Sectional Dependence in Panel Data Analysis," Econometric Reviews, Taylor & Francis Journals, vol. 31(5), pages 483-531, September.
    2. Tolga Omay, 2014. "A Survey about Smooth Transition Panel Data Analysis," Econometrics Letters, Bilimsel Mektuplar Organizasyonu (Scientific letters), vol. 1(1), pages 18-29.
    3. Robertson, Donald & Sarafidis, Vasilis, 2015. "IV estimation of panels with factor residuals," Journal of Econometrics, Elsevier, vol. 185(2), pages 526-541.
    4. Haruo Iwakura & Ryo Okui, 2014. "Asymptotic Efficiency in Factor Models and Dynamic Panel Data Models," KIER Working Papers 887, Kyoto University, Institute of Economic Research.

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    More about this item

    Keywords

    Method of moments; dynamic panel data; cross-sectional dependence;
    All these keywords.

    JEL classification:

    • C13 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Estimation: General
    • C23 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables - - - Models with Panel Data; Spatio-temporal Models
    • C15 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Statistical Simulation Methods: General

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