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The Distribution of the Instrumental Variables Estimator and Its t-Ratio When the Instrument Is a Poor One

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Author Info
Nelson, Charles R
Startz, Richard

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Abstract

Instrumental variables estimation is used when there is reason to suspect feedback from a dependent variable to the explanatory variable, but the results will tend to be highly misleading if the instrument is a poor one. In this case, the distribution of the estimated coefficient is concentrated around a value that is related to the amount of feedback rather than to the true coefficient. When the true coefficient is zero, the instrumental variables coefficient will nevertheless appear to be highly significant, and this effect increases with the amount of feedback. Thus, it is in the cases where least squares is a poor estimator that instrumental variables with a poor instrument will be even worse. Some guidelines for practice are suggested. Copyright 1990 by the University of Chicago.

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Publisher Info
Article provided by University of Chicago Press in its journal Journal of Business.

Volume (Year): 63 (1990)
Issue (Month): 1 (January)
Pages: S125-40
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Handle: RePEc:ucp:jnlbus:v:63:y:1990:i:1:p:s125-40

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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.:
  1. Hall, Robert E, 1978. "Stochastic Implications of the Life Cycle-Permanent Income Hypothesis: Theory and Evidence," Journal of Political Economy, University of Chicago Press, vol. 86(6), pages 971-87, December. [Downloadable!] (restricted)
  2. Nelson, C. & Startz, R., 1988. "Some Furthere Results On The Exact Small Sample Properties Of The Instrumental Variable Estimator," Discussion Papers in Economics at the University of Washington 88-06, Department of Economics at the University of Washington.
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  3. Hansen, Lars Peter & Singleton, Kenneth J, 1982. "Generalized Instrumental Variables Estimation of Nonlinear Rational Expectations Models," Econometrica, Econometric Society, vol. 50(5), pages 1269-86, September. [Downloadable!] (restricted)
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