A Principal Components Approach to Cross-Section Dependence in Panels
The use of GLS to deal with cross-section dependence in panels is not feasible where N is large relative to T since the disturbance covariance matrix is rank deficient. Neither is it the appropriate response if the dependence results from omitted global variables or common shocks correlated with the included regressors. These can be proxied by the principal components of the residuals from a baseline regression. It is shown that the OLS estimates from a regression augmented by these principal components are unbiased and consistent using sequential limits for large T, large N. Simulations show that this leads to a substantial reduction in bias even for relatively small T and N panels. An empirical application indicates that the impact of cross section dependence seems to strengthen the case for long run PPP.
|Date of creation:||Mar 2002|
|Contact details of provider:|| |
References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- Peter C. B. Phillips & Hyungsik R. Moon, 1999.
"Linear Regression Limit Theory for Nonstationary Panel Data,"
Econometric Society, vol. 67(5), pages 1057-1112, September.
- Peter C.B. Phillips & Hyungsik R. Moon, 1999. "Linear Regression Limit Theory for Nonstationary Panel Data," Cowles Foundation Discussion Papers 1222, Cowles Foundation for Research in Economics, Yale University.
- Jushan Bai & Serena Ng, 2002. "Determining the Number of Factors in Approximate Factor Models," Econometrica, Econometric Society, vol. 70(1), pages 191-221, January.
- Jushan Bai & Serena Ng, 2000. "Determining the Number of Factors in Approximate Factor Models," Econometric Society World Congress 2000 Contributed Papers 1504, Econometric Society.
- Jushan Bai & Serena Ng, 2000. "Determining the Number of Factors in Approximate Factor Models," Boston College Working Papers in Economics 440, Boston College Department of Economics.
- Moon, H.R.Hyungsik Roger & Perron, Benoit, 2004. "Testing for a unit root in panels with dynamic factors," Journal of Econometrics, Elsevier, vol. 122(1), pages 81-126, September.
- Hyungsik Roger MOON & Benoit PERRON, 2002. "Testing For A Unit Root In Panels With Dynamic Factors," Cahiers de recherche 18-2002, Centre interuniversitaire de recherche en économie quantitative, CIREQ.
- MOON, Hyungsik Roger & PERRON, Benoit., 2002. "Testing for a Unit Root in Panels with Dynamic Factors," Cahiers de recherche 2002-18, Universite de Montreal, Departement de sciences economiques.
- Pesaran, M. Hashem & Smith, Ron, 1995. "Estimating long-run relationships from dynamic heterogeneous panels," Journal of Econometrics, Elsevier, vol. 68(1), pages 79-113, July.
- Pesaran, M.H. & Smith, R., 1992. "Estimating Long-Run Relationships From Dynamic Heterogeneous Panels," Cambridge Working Papers in Economics 9215, Faculty of Economics, University of Cambridge.
- Anindya Banerjee & Massimiliano Marcellino & Chiara Osbat, 2005. "Testing for PPP: Should we use panel methods?," Empirical Economics, Springer, vol. 30(1), pages 77-91, January.
- Anindya Banerjee & Massimiliano Marcellino & Chiara Osbat, "undated". "Testing for PPP: Should We Use Panel Methods?," Working Papers 186, IGIER (Innocenzo Gasparini Institute for Economic Research), Bocconi University.
- Banerjee, Anindya & Massimiliano Marcellino & Chiara Osbat, 2002. "Testing for PPP: Should We Use Panel Methods?," Royal Economic Society Annual Conference 2002 13, Royal Economic Society.
- O'Connell, Paul G. J., 1998. "The overvaluation of purchasing power parity," Journal of International Economics, Elsevier, vol. 44(1), pages 1-19, February.
- Peter Phillips & Hyungsik Moon, 2000. "Nonstationary panel data analysis: an overview of some recent developments," Econometric Reviews, Taylor & Francis Journals, vol. 19(3), pages 263-286.
- Peter C.B. Phillips & Hyungsik R. Moon, 1999. "Nonstationary Panel Data Analysis: An Overview of Some Recent Developments," Cowles Foundation Discussion Papers 1221, Cowles Foundation for Research in Economics, Yale University.
- Ron Smith & Ana-Maria Fuertes & Jerry Coakley, 2001. "Small Sample Properties of Panel Time-series Estimators with I(1) Errors," Working Papers wp01-08, Warwick Business School, Finance Group.
- Jerry Coakley, Ana-Maria Fuertes, Ron Smith, 2001. "Small sample properties of panel time-series estimators with I(1) errors," Computing in Economics and Finance 2001 191, Society for Computational Economics.
- Jushan Bai & Serena Ng, 2001. "A New Look at Panel Testing of Stationarity and the PPP Hypothesis," Economics Working Paper Archive 467, The Johns Hopkins University,Department of Economics.
- Jushan Bai & Serena Ng, 2001. "A New Look at Panel Testing of Stationarity and the PPP Hypothesis," Boston College Working Papers in Economics 518, Boston College Department of Economics.
- Hall, Stephen & Lazarova, Stepana & Urga, Giovanni, 1999. " A Principal Components Analysis of Common Stochastic Trends in Heterogeneous Panel Data: Some Monte Carlo Evidence," Oxford Bulletin of Economics and Statistics, Department of Economics, University of Oxford, vol. 61(0), pages 749-767, Special I.
- Badi H. Baltagi & Chihwa Kao, 2000. "Nonstationary Panels, Cointegration in Panels and Dynamic Panels: A Survey," Center for Policy Research Working Papers 16, Center for Policy Research, Maxwell School, Syracuse University. Full references (including those not matched with items on IDEAS)
When requesting a correction, please mention this item's handle: RePEc:cpd:pd2002:b5-3. See general information about how to correct material in RePEc.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Sune Karlsson)
If references are entirely missing, you can add them using this form.