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Common Correlated Effects Estimation of Dynamic Panels with Cross-Sectional Dependence

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  • Gerdie Everaert
  • Tom De Groote

Abstract

We derive inconsistency expressions for dynamic panel data estimators under error cross-sectional dependence generated by an unobserved common factor in both the fixed effect and the incidental trends case. We show that for a temporally dependent factor, the standard within groups (WG) estimator is inconsistent even as both N and T tend to infinity. Next we investigate the properties of the common correlated effects pooled (CCEP) estimator of Pesaran (2006) which eliminates the error cross-sectional dependence using cross-sectional averages of the data. In contrast to the static case, the CCEP estimator is only consistent when next to N also T tends to infinity. It is shown that for the most relevant parameter settings, the inconsistency of the CCEP estimator is larger than that of the infeasible WG estimator, which includes the common factors as regressors. Restricting the CCEP estimator results in a somewhat smaller inconsistency. The small sample properties of the various estimators are analyzed using Monte Carlo experiments. The simulation results suggest that the CCEP estimator can be used to estimate dynamic panel data models provided T is not too small. The size of N is of less importance.

Suggested Citation

  • Gerdie Everaert & Tom De Groote, 2016. "Common Correlated Effects Estimation of Dynamic Panels with Cross-Sectional Dependence," Econometric Reviews, Taylor & Francis Journals, vol. 35(3), pages 428-463, March.
  • Handle: RePEc:taf:emetrv:v:35:y:2016:i:3:p:428-463
    DOI: 10.1080/07474938.2014.966635
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    1. Bun, Maurice J.G. & Carree, Martin A., 2005. "Bias-Corrected Estimation in Dynamic Panel Data Models," Journal of Business & Economic Statistics, American Statistical Association, vol. 23, pages 200-210, April.
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    7. Bai, Jushan & Kao, Chihwa & Ng, Serena, 2009. "Panel cointegration with global stochastic trends," Journal of Econometrics, Elsevier, vol. 149(1), pages 82-99, April.
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    Cited by:

    1. Temple, Jonathan & Van de Sijpe, Nicolas, 2017. "Foreign aid and domestic absorption," Journal of International Economics, Elsevier, vol. 108(C), pages 431-443.
    2. Everaert, Gerdie & Jansen, Stijn, 2018. "On the estimation of panel fiscal reaction functions: Heterogeneity or fiscal fatigue?," Economic Modelling, Elsevier, vol. 70(C), pages 87-96.
    3. repec:bla:ecinqu:v:56:y:2018:i:2:p:1116-1135 is not listed on IDEAS
    4. repec:eee:jimfin:v:86:y:2018:i:c:p:244-263 is not listed on IDEAS
    5. Chudik, Alexander & Pesaran, M. Hashem, 2015. "Common correlated effects estimation of heterogeneous dynamic panel data models with weakly exogenous regressors," Journal of Econometrics, Elsevier, vol. 188(2), pages 393-420.
    6. Sequeira Tiago Neves, 2017. "Democracy and income: taking parameter heterogeneity and cross-country dependency into account," The B.E. Journal of Macroeconomics, De Gruyter, vol. 17(2), pages 1-19, June.
    7. De Vos, Ignace & Everaert, Gerdie & Ruyssen, Ilse, 2015. "Bootstrap-based bias correction and inference for dynamic panels with fixed effects," Stata Journal, StataCorp LP, vol. 15(4).
    8. repec:eee:econom:v:206:y:2018:i:2:p:645-673 is not listed on IDEAS
    9. Alexander Chudik & M. Hashem Pesaran, 2013. "Large Panel Data Models with Cross-Sectional Dependence: A Survey," CESifo Working Paper Series 4371, CESifo Group Munich.
    10. Jan Ditzen, 2016. "xtdcce: Estimating Dynamic Common Correlated Effects in Stata," SEEC Discussion Papers 1601, Spatial Economics and Econometrics Centre, Heriot Watt University.
    11. repec:bla:ecinqu:v:55:y:2017:i:1:p:501-526 is not listed on IDEAS
    12. repec:eee:eejocm:v:28:y:2018:i:c:p:108-123 is not listed on IDEAS
    13. Breidenbach, Philipp & Mitze, Timo & Schmidt, Christoph M, 2016. "EU Structural Funds and Regional Income Convergence - A Sobering Experience," CEPR Discussion Papers 11210, C.E.P.R. Discussion Papers.
    14. Ignace De Vos & Gerdie Everaert, 2016. "Bias-Corrected Common Correlated Effects Pooled Estimation In Homogeneous Dynamic Panels," Working Papers of Faculty of Economics and Business Administration, Ghent University, Belgium 16/920, Ghent University, Faculty of Economics and Business Administration.
    15. Dimitrios Bakas & Theodore Panagiotidis & Gianluigi Pelloni, 2017. "Regional And Sectoral Evidence Of The Macroeconomic Effects Of Labor Reallocation: A Panel Data Analysis," Economic Inquiry, Western Economic Association International, vol. 55(1), pages 501-526, January.
    16. Mika, Alina & Zumer, Tina, 2017. "Indebtedness in the EU: a drag or a catalyst for growth?," Working Paper Series 2118, European Central Bank.
    17. Delwar Hossain, 2014. "Differential Impacts of Foreign Capital and Remittance Inflows on Domestic Savings in the Developing Countries: A Dynamic Heterogeneous Panel Analysis," Departmental Working Papers 2014-07, The Australian National University, Arndt-Corden Department of Economics.

    More about this item

    JEL classification:

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

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