Endogeneity, Time-Varying Coefficients, and Incorrect vs. Correct Ways of Specifying the Error Terms of Econometric Models

• Main Authors: P.A.V.B. Swamy, Jatinder S. Mehta, I-Lok Chang
• Format: Article
• Language: English
• Published: MDPI AG 2017-02-01
• Series: Econometrics
• Subjects: endogenous variable; exogenous variable; time-varying coefficient; unique coefficient and error term; accurate estimation of bias-free component
• Online Access: http://www.mdpi.com/2225-1146/5/1/8
• ISSN: 2225-1146

Using the net effect of all relevant regressors omitted from a model to form its error term is incorrect because the coefficients and error term of such a model are non-unique. Non-unique coefficients cannot possess consistent estimators. Uniqueness can be achieved if; instead; one uses certain “sufficient sets” of (relevant) regressors omitted from each model to represent the error term. In this case; the unique coefficient on any non-constant regressor takes the form of the sum of a bias-free component and omitted-regressor biases. Measurement-error bias can also be incorporated into this sum. We show that if our procedures are followed; accurate estimation of bias-free components is possible.