Identification and Estimation of Dynamic Causal Effects in Macroeconomics Using External Instruments

James H. Stock, Mark W. Watson

Research output: Contribution to journalArticle

20 Scopus citations

Abstract

External sources of as-if randomness — that is, external instruments — can be used to identify the dynamic causal effects of macroeconomic shocks. One method is a one-step instrumental variables regression (local projections – IV); a more efficient two-step method involves a vector autoregression. We show that, under a restrictive instrument validity condition, the one-step method is valid even if the vector autoregression is not invertible, so comparing the two estimates provides a test of invertibility. If, however, lagged endogenous variables are needed as control variables in the one-step method, then the conditions for validity of the two methods are the same.

Original languageEnglish (US)
Pages (from-to)917-948
Number of pages32
JournalEconomic Journal
Volume128
Issue number610
DOIs
StatePublished - May 2018

All Science Journal Classification (ASJC) codes

  • Economics and Econometrics

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