CIS-CEE Growth Regression

Practical Steps



I. Specification and Notation
(1)
0 1 1, 2 3 4 ,
1
5 6 7
log( / ) log( / )
;
, 1,.., ; 1,..., ;
N
ti t i ij t j
j ti ti
i i i t ti
ti i ti
I G
y GDPp c w GDPp c
GDP GDP
Corrup Oil CIS u
u v t T i N

=
| | | |
= + + + + +
| |
\ . \ .

+ + + + +

= + = =

where T=7 (from 1998 to 2004) (for asymptotical analysis considered fixed) and N=20
( N )
ti
y - annual GDP growth rate for country i in year t, dependent variable;

1,
log( / )
t i
GDPp c

- lagged log GDP per capita.

I
GDP
- gross fixed investment as a share of GDP

G
GDP
-government expenditure as a share of GDP
Corrup - corruption index, proxy for the quality of political institutions,
(measured as average for the sample period).
Oil - oil producing country dummy
CIS - CIS regional dummy

t
- year effect, fixed BE CAREFUL to avoid dummy variables trap, drop one
year, so number of regressors is not T but (T-1), if T=7, then there are 6 year dummies
i
- unobserved individual effect, random
ti
v - idiosyncratic error
ti
s
,
1
log( / )
N
ij t j
j
w GDPp c
=

weighted average of log GDP p/c in other countries

Total number of parameters is 14,check it

To simplify notation, denote:

1, 1,
,
1
log( / ) ; ( / ) ; ( / ) ;
; ; log( / )
t i t i ti ti ti ti
N
i i i i ti ij t j
j
Y GDPp c I I GDP g G GDP
O Oil CI Corrup s w GDPp c

=

Stack model (1) by time:

(2)
0 1 2 3 4
5 6 7
log( / )
;
, 1,..., ;
i T i i
i i
T i T i T i i
i T i i
I G
y e GDPp c s
GDP GDP
e Co rru p e Oil e CIS u
u e v i N

| | | |
= + + + + +
| |
\ . \ .

+ + + + +

= + =

where
1
1
T
e
(
(
=
(
(

vector of ones, of dimension 7x1;
98,
04,
i
i
i
y
y
y
(
(
=
(
(


98,
04,
log( / )
log( / )
log( / )
i
i
i
GDPp c
GDPp c
GDPp c
(
(
=
(
(

;
98,
04,
i
i
i
I
GDP
I
GDP
I
GDP
(
(
(
| |
=
(
|
\ .
(
(
(

;
98,
04,
i
i
i
G
GDP
G
GDP
G
GDP
(
(
(
| |
=
(
|
\ .
(
(
(


98,
1
04,
1
log( / )
log( / )
N
ij j
j
i
N
ij j
j
w GDPp c
s
w GDPp c
=
=
(
(
(
( =
(
(
(

;
98
04

(
(
=
(
(

(note one of the lamda's is 0 to avoid multicoll)

(2) is a system of 7 equations, #of parameters 14.

Re-write (2) in general notation:

(1)
;
i i T i i i i
i T i i
y X e z u R u
u e v

= + + = +

= +

where | | ,
i i T i
R X e z = ; ( , ) = , is (10x1); is (4x1)

| |
11 1 1
1
1 1
, ,
i iK i iL
i T i i i iL
Ti TiK i iL
x x z z
X e z z z z
x x z z
( (
( (
= = =
( (
( (





where
i
X consists of log( / )
i
GDPp c ;
i
I
GDP
| |
|
\ .
;
i
G
GDP
| |
|
\ .
;
i
s ; ; | | 1
i i i i
z CI Oil CIS =
Let ( )
/
T
L
K T T
e T

| |
=
|

\ .

be (7x7) transofrmation matrix, where

( 1)
1 0 0 0 ... 0
1 1 0 0 ... 0
0 1 1 0 ... 0
0 ... 0 ... 1 1
0 ... ... ... 0 1
T T
L

(
(

(
(
=
(
(
(

( in our case, L will be 8 by 7) first differencing m.

We can further stack (3) by units, and get the following:

(2)
( )
( ) ,
,
T
N T
y X Z e u R u
u I e v

= + + = +

= +

where | |
1 1 1
,( )
T
T
N T N N
X e z R
R X Z e
X e z R
( (
( (
= = =
( (
( (


11 111 11
1 11 1
1 1 1 1
1
,
K
T T T K
N N NK
NT TN TNK
y x x
y x x
y X
y x x
y x x
( (
( (
( (
( (
( (
= =
( (
( (
( (
( (
( (

,( ) ( )
T N T
Z e I e Z =

II. Algorithm/Steps:

1. Pre-multiply (2) with K or pre-multiply the fully stacked model (4) by
N
I K
(whichever way is convenient to you). Denote the transformed variables as
follows:

1
. . .
i i i i i i
i i
T i i i i i i i
L y y u X v R
y Ky
T e y y u X z u R

( ( + ( ( (
= = = = +
( ( ( ( (
+ +




where
1
i i
i
T i i
L R R
KR
T e R R

( (
= =
( (

Note that Z's (time-invariant variable have been "wiped out" by L.

2. Form matrix of instruments:

a. for unit i:
99,
00,
01,
02,
03,
04,
0 0 0 0 0 0
0 0 0 0 0 0
0 0 0 0 0 0
0 0 0 0 0 0
0 0 0 0 0 0
0 0 0 0 0 0
0 0 0 0 0 0
i
i
i
i i
i
i
i
h
h
h
H h
h
h
m
(
(
(
(
(
=
(
(
(
(
(



where (I am suppressing the unit subscript to save space, but variables only for unit i
should be used in the instrument matrix for unit i):

(5)
99, 98 99 97 97 97
00, 99 00 98 98 98
01, 00 01 99 99 99
02, 01 02 00 00 00
03, 01 02 01 01 01
04, 03 04 02 02 02
(1, , ; ; ; );# 6
(1, , ; ; ; );
(1, , ; ; ; );
(1, , ; ; ; );
(1, , ; ; ; );
(1, , ; ; ; );
(1, , ,
i
i
i
i
i
i
i i i
h s s Y I g IVs
h s s Y I g
h s s Y I g
h s s Y I g
h s s Y I g
h s s Y I g
m CI O C
= =
=
=
=
=
=
= )#4
i
IS

In this case, number of instruments =40;
(7 40)
i
H matrix.

b. for all units in stacked form:

1
N
H
H
H
(
(
=
(
(

- 140 40 (NT by number of instruments) instrument matrix

3. Get a preliminary consistent estimate of

pr
using formula for the general GMM
estimator by dropping C. The resulting estimator can be obtained using either of
the two formulae:

(6)
1
1 1 1 1

N N N N
i i i i i i i i
i i i i
H R H R H R H R

+ + + +
= = = =

| | | | | | | |
=
`
| | | |
\ . \ . \ . \ .

)


where
1
i i
i i
T i i
L R R
R KR
T e R R
+

( (
= = =
( (

(7)
{ }
1

( ) ( ) ( ) ( )
N N N N
R I K HH I K R R I K HH I K y


=

4. Get residuals

i i i pr
u y R = , then transform residuals:
i i
u Ku
+
.
Let K K
+
= (7x7) true covariance matrix of i-th transformed equation
( )( )( )
N N N N N
I I K K I K I I K
+ +
= = = (140x140) be true
covariance matrix of the fully stacked system.

Get estimator of
+
:
1
1

N
i i
i
u u
N
+ + +
=

=

(7x7) matrix
and

N
I
+ +
== - (140x140) matrix, estimator of CV matrix of the entire
transformed regression.

5. Form
{ }
| |
1
1 1
1
1
1

( )
N
N N i i
i
N
H
C H H H H I H H
H

+ + +
=
(

(
= = =
` `
(
)

(
)


H is (140x40),

C is (40x40) ( I think it is better to use

{ }
1

C H H

+
= )

6. Get efficient GMM using either of the 2 formulae: ( I think the second,
Kronecker, formula is better)
(8)
1
1 1 1 1

N N N N
i i i i i i i i
i i i i
H R C H R H R C H R

+ + + +
= = = =

| | | | | | | |
=
`
| | | |
\ . \ . \ . \ .

)


or
(9)
{ }
1

( ) ( ) ( ) ( )
N N N N
R I K HCH I K R R I K HCH I K y


=
7. Calculate estimated covariance matrix of the second step estimator
GMM

CV =
{ } { }
1 1

( ) ( )
N N
R I K HCH I K R R HCH R

+ +

=
8. Calculate t-statistic based on robust covariance estimator for each coefficient
k
:

140 14

k
k
kk
t t
CV

= , where
kk
CV - is k-th diagonal element of the covariance matrix
9. Calculate adjusted R . (do not know formula)

10. Prepare a nice table and report the results.