Common correlated effects estimation of heterogeneous dynamic panel data models with weakly exogenous regressors

This paper extends the Common Correlated Effects (CCE) approach developed by Pesaran (2006) to heterogeneous panel data models with lagged dependent variables and/or weakly exogenous regressors. We show that the CCE mean group estimator continues to be valid but the following two conditions must be...

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Bibliographic Details
Published in:Journal of econometrics 2015-10, Vol.188 (2), p.393-420
Main Authors: Chudik, Alexander, Pesaran, M. Hashem
Format: Article
Language:English
Subjects:
Asymptotic methods
Coefficient heterogeneity
Common correlated effects
Cross section dependence
Data models
Econometrics
Estimation and inference
Estimation bias
Lagged dependent variable
Large panels
Monte Carlo simulation
Studies
Time series
Unobserved common factors
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Summary:This paper extends the Common Correlated Effects (CCE) approach developed by Pesaran (2006) to heterogeneous panel data models with lagged dependent variables and/or weakly exogenous regressors. We show that the CCE mean group estimator continues to be valid but the following two conditions must be satisfied to deal with the dynamics: a sufficient number of lags of cross section averages must be included in individual equations of the panel, and the number of cross section averages must be at least as large as the number of unobserved common factors. We establish consistency rates, derive the asymptotic distribution, suggest using covariates to deal with the effects of multiple unobserved common factors, and consider jackknife and recursive de-meaning bias correction procedures to mitigate the small sample time series bias. Theoretical findings are accompanied by extensive Monte Carlo experiments, which show that the proposed estimators perform well so long as the time series dimension of the panel is sufficiently large.
ISSN:0304-4076
1872-6895
DOI:10.1016/j.jeconom.2015.03.007