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Have Instrumental Variables Brought Us Closer to the Truth

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  • Wei Jiang

Abstract

A survey of 255 papers that rely on the instrumental variable (IV) approach for identifying causal effects published in the “Big Three” finance journals reveals that IV estimates are larger than their corresponding uninstrumented estimates in about 80% of the studies, regardless of whether the potential endogeneity is expected to create a positive or negative bias based on economic reasoning. The magnitude of the IV estimates is, on average, nine times of that of the uninstrumented estimates even when economic insights do not suggest a downward bias of the latter. This study provides several explanations to the “implausibly large” IV estimates in finance research, and proposes best practices for identification-conscientious researchers.

Suggested Citation

  • Wei Jiang, 2017. "Have Instrumental Variables Brought Us Closer to the Truth," The Review of Corporate Finance Studies, Society for Financial Studies, vol. 6(2), pages 127-140.
    • Handle: RePEc:oup:rcorpf:v:6:y:2017:i:2:p:127-140.
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    References listed on IDEAS

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    More about this item

    JEL classification:

    • G30 - Financial Economics - - Corporate Finance and Governance - - - General
    • C13 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Estimation: General

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