A spatial stochastic frontier model with fixed effects and endogenous environmental variables

Abstract

ABSTRACT Stochastic frontier analysis (SFA) models often address fixed effects and endogeneity as separate issues. This study bridges this gap by proposing a unified approach within an ML (maximum likelihood) framework to manage both challenges simultaneously. The ML function is derived in a closed form, but its maximisation requires a numerical solution. To assess the properties of the ML estimator, a Monte Carlo simulation was performed. The simulation shows that the estimator performs reasonably well and gains efficiency asymptotically. The applicability of the estimator was further assessed through an empirical exercise that examined technical efficiency of the production function in a panel of European countries, managing spatiality, endogeneity, and fixed effects.