On the Practice of Lagging Variables to Avoid Simultaneity

A common practice in applied economics research consists of replacing a suspected simultaneously determined explanatory variable with its lagged value. This note demonstrates that this practice does not enable one to avoid simultaneity bias. The associated estimates are still inconsistent, and hypot...

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Bibliographic Details
Published in:	Oxford bulletin of economics and statistics Vol. 77; no. 6; pp. 897 - 905
Main Author:	Reed, William Robert
Format:	Journal Article
Language:	English
Published:	Oxford Blackwell Publishing Ltd 01.12.2015 Wiley-Blackwell
Subjects:	Applied economics Economic research Economic theory Economics Effectiveness studies Endogenous Estimating techniques Estimation Estimation bias Hypothesis testing Internet Lagged variables Research methodology Reverse causality Simultaneity Valuation methods
ISSN:	0305-9049, 1468-0084
Online Access:	Get full text
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Abstract	A common practice in applied economics research consists of replacing a suspected simultaneously determined explanatory variable with its lagged value. This note demonstrates that this practice does not enable one to avoid simultaneity bias. The associated estimates are still inconsistent, and hypothesis testing is invalid. An alternative is to use lagged values of the endogenous variable in instrumental variable estimation. However, this is only an effective estimation strategy if the lagged values do not themselves belong in the respective estimating equation, and if they are sufficiently correlated with the simultaneously determined explanatory variable.
AbstractList	A common practice in applied economics research consists of replacing a suspected simultaneously determined explanatory variable with its lagged value. This note demonstrates that this practice does not enable one to avoid simultaneity bias. The associated estimates are still inconsistent, and hypothesis testing is invalid. An alternative is to use lagged values of the endogenous variable in instrumental variable estimation. However, this is only an effective estimation strategy if the lagged values do not themselves belong in the respective estimating equation, and if they are sufficiently correlated with the simultaneously determined explanatory variable. A common practice in applied economics research consists of replacing a suspected simultaneously determined explanatory variable with its lagged value. This note demonstrates that this practice does not enable one to avoid simultaneity bias. The associated estimates are still inconsistent, and hypothesis testing is invalid. An alternative is to use lagged values of the endogenous variable in instrumental variable estimation. However, this is only an effective estimation strategy if the lagged values do not themselves belong in the respective estimating equation, and if they are sufficiently correlated with the simultaneously determined explanatory variable. [web URL: http://onlinelibrary.wiley.com/doi/10.1111/obes.12088/abstract]
Author	Reed, William Robert
Author_xml	– sequence: 1 givenname: William Robert surname: Reed fullname: Reed, William Robert email: bob.reed@canterbury.ac.nz organization: Department of Economics and Finance, University of Canterbury, Private Bag 4800, 8140, Christchurch, New Zealand
BackLink	http://www.econis.eu/PPNSET?PPN=842167641$$DView this record in ZBW - Deutsche Zentralbibliothek für Wirtschaftswissenschaften
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ContentType	Journal Article
Copyright	2015 The Department of Economics, University of Oxford and John Wiley & Sons Ltd. Copyright Blackwell Publishing Ltd. Dec 2015
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Notes	ark:/67375/WNG-MBJJ92XW-2 ArticleID:OBES12088 istex:ED0DA7B86AAD0EBE03A19F2A8AAAF0ACC129A6E5 I acknowledge helpful comments from Kuntal Das, Chris Hajzler, Steven Stillman, Jeffrey Wooldridge, James Ziliak, Arthur Grimes and seminar participants at the University of Otago and the 2014 New Zealand Association of Economists conference. I am also grateful for the comments from anonymous reviewers which substantially improved the analysis. Remaining errors are my own. SourceType-Scholarly Journals-1 ObjectType-Feature-1 content type line 14
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References	MacKay, P. and Phillips, G.M. (2005). 'How does industry affect firm financial structure?', Review of Financial Studies, Vol. 18, pp. 1433-1466. Jensen, P.S., and Paldam, M. (2006). 'Can the two new aid-growth models be replicated?', Public Choice, Vol. 127, pp. 147-175. Kinal, T. (1980). 'The existence of moments of k-class estimators', Econometrica, Vol. 48, pp. 241-249. Bansak, C., Morin, N., and Starr, M. (2007). 'Technology, capital spending, and capacity utilization', Economic Inquiry, Vol. 45, pp. 631-645. Stiebale, J. (2011). 'Do financial constraints matter for foreign market entry? A firm-level examination', World Economy, Vol. 34, pp. 123-153. Clemens, M.A., Radelet, S., Bhavnani, R.R., and Bazzi, S. (2012). 'Counting chickens when they hatch: Timing and the effects of aid on growth', The Economic Journal, Vol. 122, pp. 590-617. Buch, C., Koch, C. T., and Koetter, M. (2013). 'Do banks benefit from internationalization? Revisiting the market power-risk nexus', Review of Finance, Vol. 17, pp. 1401-1435. Vergara, R. (2010). 'Taxation and private investment: evidence for Chile', Applied Economics, Vol. 42, pp. 717-725. Gupta, N. (2005). 'Partial privatization and firm performance', Journal of Finance, Vol. 60, pp. 987-1015. Hayo, B., Kutan, M.K., and Neuenkirch, M. (2010). 'The impact of U.S. central bank communication on European and Pacific equity markets', Economics Letters, Vol. 108, pp. 172-174. Cornett, M.M., Marcus, A.J., Saunders, A., and Tehranian, H. (2007). 'The impact of institutional ownership on corporate operating performance', Journal of Banking & Finance, Vol. 31, pp. 1771-1794. Green, R.K., Malpezzi, S., and Mayo, S.K. (2005). 'Metropolitan-specific estimates of the price elasticity of supply of housing, and their sources', American Economic Review, Vol. 95, pp. 334-339. Aschhoff, B. and Schmidt, T. (2008). 'Empirical evidence on the success of R&D cooperation-Happy together?', Review of Industrial Organization, Vol. 33, pp. 41-62. Brinks, D. and Coppedge, M. (2006). 'Diffusion is no illusion: neighbor emulation in the third wave of democracy', Comparative Political Studies, Vol. 39, pp. 463-489 Bania, N., Gray, J.A., and Stone, J.A. (2007). 'Growth, taxes, and government expenditures: growth hills for U.S. states', National Tax Journal, Vol. LX (60), pp. 193-204. 1980; 48 2010; 42 2007; LX (60) 2012; 122 2013; 17 2010; 108 2006; 39 2005; 95 2008; 33 2011; 34 2005; 60 2007; 31 2006; 127 2007; 45 2005; 18 e_1_2_7_6_1 e_1_2_7_5_1 e_1_2_7_4_1 e_1_2_7_3_1 e_1_2_7_9_1 e_1_2_7_8_1 e_1_2_7_7_1 e_1_2_7_16_1 e_1_2_7_2_1 e_1_2_7_15_1 e_1_2_7_14_1 e_1_2_7_13_1 e_1_2_7_12_1 e_1_2_7_11_1 e_1_2_7_10_1
References_xml	– reference: Clemens, M.A., Radelet, S., Bhavnani, R.R., and Bazzi, S. (2012). 'Counting chickens when they hatch: Timing and the effects of aid on growth', The Economic Journal, Vol. 122, pp. 590-617. – reference: Green, R.K., Malpezzi, S., and Mayo, S.K. (2005). 'Metropolitan-specific estimates of the price elasticity of supply of housing, and their sources', American Economic Review, Vol. 95, pp. 334-339. – reference: Gupta, N. (2005). 'Partial privatization and firm performance', Journal of Finance, Vol. 60, pp. 987-1015. – reference: Cornett, M.M., Marcus, A.J., Saunders, A., and Tehranian, H. (2007). 'The impact of institutional ownership on corporate operating performance', Journal of Banking & Finance, Vol. 31, pp. 1771-1794. – reference: Jensen, P.S., and Paldam, M. (2006). 'Can the two new aid-growth models be replicated?', Public Choice, Vol. 127, pp. 147-175. – reference: Vergara, R. (2010). 'Taxation and private investment: evidence for Chile', Applied Economics, Vol. 42, pp. 717-725. – reference: Kinal, T. (1980). 'The existence of moments of k-class estimators', Econometrica, Vol. 48, pp. 241-249. – reference: Bansak, C., Morin, N., and Starr, M. (2007). 'Technology, capital spending, and capacity utilization', Economic Inquiry, Vol. 45, pp. 631-645. – reference: MacKay, P. and Phillips, G.M. (2005). 'How does industry affect firm financial structure?', Review of Financial Studies, Vol. 18, pp. 1433-1466. – reference: Aschhoff, B. and Schmidt, T. (2008). 'Empirical evidence on the success of R&D cooperation-Happy together?', Review of Industrial Organization, Vol. 33, pp. 41-62. – reference: Buch, C., Koch, C. T., and Koetter, M. (2013). 'Do banks benefit from internationalization? Revisiting the market power-risk nexus', Review of Finance, Vol. 17, pp. 1401-1435. – reference: Brinks, D. and Coppedge, M. (2006). 'Diffusion is no illusion: neighbor emulation in the third wave of democracy', Comparative Political Studies, Vol. 39, pp. 463-489 – reference: Stiebale, J. (2011). 'Do financial constraints matter for foreign market entry? A firm-level examination', World Economy, Vol. 34, pp. 123-153. – reference: Bania, N., Gray, J.A., and Stone, J.A. (2007). 'Growth, taxes, and government expenditures: growth hills for U.S. states', National Tax Journal, Vol. LX (60), pp. 193-204. – reference: Hayo, B., Kutan, M.K., and Neuenkirch, M. (2010). 'The impact of U.S. central bank communication on European and Pacific equity markets', Economics Letters, Vol. 108, pp. 172-174. – volume: 95 start-page: 334 year: 2005 end-page: 339 article-title: Metropolitan‐specific estimates of the price elasticity of supply of housing, and their sources publication-title: American Economic Review – volume: 108 start-page: 172 year: 2010 end-page: 174 article-title: The impact of U.S. central bank communication on European and Pacific equity markets publication-title: Economics Letters – volume: 31 start-page: 1771 year: 2007 end-page: 1794 article-title: The impact of institutional ownership on corporate operating performance publication-title: Journal of Banking & Finance – volume: 39 start-page: 463 year: 2006 end-page: 489 article-title: Diffusion is no illusion: neighbor emulation in the third wave of democracy publication-title: Comparative Political Studies – volume: 45 start-page: 631 year: 2007 end-page: 645 article-title: Technology, capital spending, and capacity utilization publication-title: Economic Inquiry – volume: 17 start-page: 1401 year: 2013 end-page: 1435 article-title: Do banks benefit from internationalization? Revisiting the market power–risk nexus publication-title: Review of Finance – volume: 127 start-page: 147 year: 2006 end-page: 175 article-title: Can the two new aid‐growth models be replicated? publication-title: Public Choice – volume: 34 start-page: 123 year: 2011 end-page: 153 article-title: Do financial constraints matter for foreign market entry? A firm‐level examination publication-title: World Economy – volume: 18 start-page: 1433 year: 2005 end-page: 1466 article-title: How does industry affect firm financial structure? publication-title: Review of Financial Studies – volume: 122 start-page: 590 year: 2012 end-page: 617 article-title: Counting chickens when they hatch: Timing and the effects of aid on growth publication-title: The Economic Journal – volume: LX (60) start-page: 193 year: 2007 end-page: 204 article-title: Growth, taxes, and government expenditures: growth hills for U.S. states publication-title: National Tax Journal – volume: 60 start-page: 987 year: 2005 end-page: 1015 article-title: Partial privatization and firm performance publication-title: Journal of Finance – volume: 42 start-page: 717 year: 2010 end-page: 725 article-title: Taxation and private investment: evidence for Chile publication-title: Applied Economics – volume: 48 start-page: 241 year: 1980 end-page: 249 article-title: The existence of moments of k‐class estimators publication-title: Econometrica – volume: 33 start-page: 41 year: 2008 end-page: 62 article-title: Empirical evidence on the success of R&D cooperation—Happy together? publication-title: Review of Industrial Organization – ident: e_1_2_7_10_1 doi: 10.1111/j.1540-6261.2005.00753.x – ident: e_1_2_7_2_1 doi: 10.1007/s11151-008-9179-7 – ident: e_1_2_7_16_1 doi: 10.1080/00036840701720747 – ident: e_1_2_7_11_1 doi: 10.1016/j.econlet.2010.05.006 – ident: e_1_2_7_12_1 doi: 10.1007/s11127-006-0865-4 – ident: e_1_2_7_15_1 doi: 10.1111/j.1467-9701.2010.01306.x – ident: e_1_2_7_13_1 doi: 10.2307/1912027 – ident: e_1_2_7_6_1 doi: 10.1093/rof/rfs033 – ident: e_1_2_7_9_1 doi: 10.1257/000282805774670077 – ident: e_1_2_7_3_1 doi: 10.17310/ntj.2007.2.02 – ident: e_1_2_7_4_1 doi: 10.1111/j.1465-7295.2007.00019.x – ident: e_1_2_7_5_1 doi: 10.1177/0010414005276666 – ident: e_1_2_7_8_1 doi: 10.1016/j.jbankfin.2006.08.006 – ident: e_1_2_7_7_1 doi: 10.1111/j.1468-0297.2011.02482.x – ident: e_1_2_7_14_1 doi: 10.1093/rfs/hhi032
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Snippet	A common practice in applied economics research consists of replacing a suspected simultaneously determined explanatory variable with its lagged value. This...
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SubjectTerms	Applied economics Economic research Economic theory Economics Effectiveness studies Endogenous Estimating techniques Estimation Estimation bias Hypothesis testing Internet Lagged variables Research methodology Reverse causality Simultaneity Valuation methods
Title	On the Practice of Lagging Variables to Avoid Simultaneity
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