Abstract
Two elements enter the choice between 2 and 3SLS for full-system estimation: statistical efficiency and computational cost. 2SLS always has the computational edge, but 3SLS can be more efficient, a relative advantage that increases with the strength of the interrelations among the error terms. A measure of these interrelations is thus helpful in making the choice, and, when there are only two equations, this has suggested using a high pairwise error correlation as an indicator of when to use 3SLS. In larger systems of equations, however, these pairwise correlations can remain small even though more general interrelations give 3SLS the relative advantage. More general indicators are therefore needed, and this paper suggests three such and demonstrates their efficacy.
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Professor of Economics, Boston College, and Principal Research Associate, Center for Computational Research in Economics and Management Science, MIT. All computation was done on the TROLL system at MIT. My thanks go to Josh Charap for his able research assistance. This research was sponsored in part by the National Science Foundation under grant #IST-8420614.
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Belsley, D.A. Two- or three-stage least squares?. Computer Science in Economics and Management 1, 21–30 (1988). https://doi.org/10.1007/BF00435200
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DOI: https://doi.org/10.1007/BF00435200