Factor models in panels with cross-sectional dependence: an application to the extended SIPRI military expenditure data

Ronald Smith and Elisa Cavatorta
Additional contact information
Elisa Cavatorta: King’s College London

No 1602, Birkbeck Working Papers in Economics and Finance from Birkbeck, Department of Economics, Mathematics & Statistics

Abstract: Strategic interactions between countries, such as arms races, alliances and wider economic and political shocks, can induce strong cross-sectional dependence in models of military expenditures using panel data. If the assumption of cross-sectional independence fails, standard panel estimators such as fixed or random effects can lead to misleading inference. This paper shows how to improve estimation of dynamic, heterogenous, panel models of the demand for military expenditure allowing for cross-sectional dependence in errors using two approaches: Principal Components and Common Correlated Effect estimators. Our results show that it is crucial to allow for cross-section dependence and there are large gains in it by allowing for both dynamics and between country heterogeneity in demand models of military expenditures. Our estimates show that mean group estimation of error correction models using the Common Correlated Effect approach provides an effective modelling framework.

Keywords: Military expenditure; Panel data; Factor models. (search for similar items in EconPapers)
JEL-codes: C33 C82 H56 (search for similar items in EconPapers)
Date: 2016-04
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (3)

Downloads: (external link)
https://eprints.bbk.ac.uk/id/eprint/15262 First version, 2016 (application/pdf)

Related works:
Journal Article: Factor Models in Panels with Cross-sectional Dependence: An Application to the Extended SIPRI Military Expenditure Data (2017)
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:bbk:bbkefp:1602

Ordering information: This working paper can be ordered from

Access Statistics for this paper

More papers in Birkbeck Working Papers in Economics and Finance from Birkbeck, Department of Economics, Mathematics & Statistics Malet Street, London WC1E 7HX, UK.
Bibliographic data for series maintained by ( this e-mail address is bad, please contact ).