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The Precision of Instrumental Variables Estimates With Grouped Data

Author

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  • Lara D. Shore-Sheppard

    (University of Pittsburgh)

Abstract

This paper is an examination of a potential problem inherent in instrumental variables estimation in samples drawn from populations with a grouped structure. When data used in a regression model are drawn from such a population, the regression errors may not satisfy the assumption that they not be correlated. While the consequences of this correlation have been recognized previously in the context of ordinary least squares estimation where the values of the exogenous variables do not vary within group, little attention has been paid to the consequences of such correlation for instrumental variables estimation. In this paper I examine the consequences of intra-group correlation for instrumental variables estimation where the instruments (rather than the exogenous variables) have repeated values within groups. I first briefly summarize analytical results which demonstrate that ignoring the problem of the grouped structure will yield estimated standard errors which are understated. While the magnitude of the understatement depends on the size of the within-group variance relative to the total variance, even small amounts of within-group correlation result in understatement. I then perform simulations using different magnitudes of within-group correlation and various sample sizes and calculate the standard errors with and without accounting for the correlation. I find that with a data set comparable in size to many cross-sectional data sets used by empirical economists. even within-group variance only one-tenth the size of the total variance yields estimated standard errors that are as much as eight times too small relative to the correctly estimated standard errors. Finally, I describe two methods for estimating standard errors which account for the within-group correlation.

Suggested Citation

  • Lara D. Shore-Sheppard, 1996. "The Precision of Instrumental Variables Estimates With Grouped Data," Working Papers 753, Princeton University, Department of Economics, Industrial Relations Section..
  • Handle: RePEc:pri:indrel:374
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    Cited by:

    1. Raphael, Steven & Rice, Lorien, 2002. "Car ownership, employment, and earnings," Journal of Urban Economics, Elsevier, vol. 52(1), pages 109-130, July.
    2. repec:eee:wodepe:v:6:y:2017:i:c:p:1-10 is not listed on IDEAS
    3. Iyer, S. & Shrivastava, A. & Ticku, R., 2017. "Holy Wars? Temple desecrations in Medieval India," Cambridge Working Papers in Economics 1705, Faculty of Economics, University of Cambridge.
    4. Reyes, Luis Carlos, 2014. "Estimating the Causal Effect of Forced Eradication on Coca Cultivation in Colombian Municipalities," World Development, Elsevier, vol. 61(C), pages 70-84.
    5. Fertig, Michael, 2003. "Educational Production, Endogenous Peer Group Formation and Class Composition – Evidence from the PISA 2000 Study," IZA Discussion Papers 714, Institute for the Study of Labor (IZA).
    6. Lee, David S. & Card, David, 2008. "Regression discontinuity inference with specification error," Journal of Econometrics, Elsevier, vol. 142(2), pages 655-674, February.
    7. Lorien Rice & Cynthia Bansak, 2014. "The Effect Of Welfare Asset Rules On Auto Ownership, Employment, And Welfare Participation: A Longitudinal Analysis," Contemporary Economic Policy, Western Economic Association International, vol. 32(2), pages 306-333, April.
    8. Richard B. Fabling & Arthur Grimes, 2007. "Practice Makes Profit: Business Practices and Firm Success," Small Business Economics, Springer, vol. 29(4), pages 383-399, December.
    9. David Figlio & Jens Ludwig, 2012. "Sex, Drugs, and Catholic Schools: Private Schooling and Non-Market Adolescent Behaviors," German Economic Review, Verein für Socialpolitik, vol. 13(4), pages 385-415, November.
    10. Tandon, Sharad, 2012. "Agricultural Support and Political Mobilization: Evidence from Andhra Pradesh," 2012 Annual Meeting, August 12-14, 2012, Seattle, Washington 124412, Agricultural and Applied Economics Association.

    More about this item

    Keywords

    instrumental variables; standard errors; grouped data;

    JEL classification:

    • E43 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Interest Rates: Determination, Term Structure, and Effects
    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy

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