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Testing for Separation in Agricultural Household Models and Unobservable Individual Effects: A Note

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  • Jean-Lois Arcand
  • Béatrice d'Hombres

Abstract

When market structure is complete, factor demands by households will be independent of their characteristics, and households will take their production decisions as if they were profit-maximizing firms. This observation constitutes the basis for one of the most popular empirical tests for complete markets, commonly known as the 'separation' hypothesis. In this paper, we show that all existing tests for separation using panel data are potentially biased towards rejecting the null-hypothesis of complete markets, because of the failure to adequately control for unobservable individual effects. Since the variable on which the test for separation is based cannot be identified in most panel datasets following the usual covariance transformations, and is likely to be correlated with the individual effect, neither the within nor the variance-components procedures are able to solve the problem. We show that the Hausman-Taylor (1981) estimator, in which the impact of covariates that are invariant along one dimension of a panel can be identified through the use of covariance transformations of other included variables that are orthogonal to the individual effects as instruments, provides a simple solution. We furnish an empirical illustration in which separation —and thus the null of complete markets— is strongly rejected using the standard approach, but is not rejected once correlated unobservable individual effects are controlled for using the Hausman-Taylor instrument set.

Suggested Citation

  • Jean-Lois Arcand & Béatrice d'Hombres, 2005. "Testing for Separation in Agricultural Household Models and Unobservable Individual Effects: A Note," Microeconomics 0510007, EconWPA.
  • Handle: RePEc:wpa:wuwpmi:0510007
    Note: Type of Document - pdf; pages: 11
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    References listed on IDEAS

    as
    1. Nabli, Mustapha K. & Nugent, Jeffrey B., 1989. "The New Institutional Economics and its applicability to development," World Development, Elsevier, vol. 17(9), pages 1333-1347, September.
    2. Bowlus, Audra J. & Sicular, Terry, 2003. "Moving toward markets? Labor allocation in rural China," Journal of Development Economics, Elsevier, vol. 71(2), pages 561-583, August.
    3. Benjamin, Dwayne, 1992. "Household Composition, Labor Markets, and Labor Demand: Testing for Separation in Agricultural Household Models," Econometrica, Econometric Society, vol. 60(2), pages 287-322, March.
    4. Hausman, Jerry, 2015. "Specification tests in econometrics," Applied Econometrics, Publishing House "SINERGIA PRESS", vol. 38(2), pages 112-134.
    5. Griliches, Zvi & Hausman, Jerry A., 1986. "Errors in variables in panel data," Journal of Econometrics, Elsevier, vol. 31(1), pages 93-118, February.
    6. H. Baltagi, Badi & Heun Song, Seuck & Cheol Jung, Byoung, 2001. "The unbalanced nested error component regression model," Journal of Econometrics, Elsevier, vol. 101(2), pages 357-381, April.
    7. Amemiya, Takeshi & MaCurdy, Thomas E, 1986. "Instrumental-Variable Estimation of an Error-Components Model," Econometrica, Econometric Society, vol. 54(4), pages 869-880, July.
    8. Breusch, Trevor S & Mizon, Grayham E & Schmidt, Peter, 1989. "Efficient Estimation Using Panel Data," Econometrica, Econometric Society, vol. 57(3), pages 695-700, May.
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    More about this item

    Keywords

    Panel data; individual effects; household models; testing for incomplete markets; development microeconomics; Tunisia;

    JEL classification:

    • D1 - Microeconomics - - Household Behavior
    • D2 - Microeconomics - - Production and Organizations
    • D3 - Microeconomics - - Distribution
    • D4 - Microeconomics - - Market Structure, Pricing, and Design

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