Robust Hausman Pretest for Panel Data Model in the Presence of Heteroscedasticity and Influential Observations

Abstract

The classical Hausman pretest (HT) is used to specified the right model between random and fixed effect panel data models. However, in the presence of heteroscedastic error variances and influential observations (IOs) in the data set, it may not correctly identify the right model. Therefore, this motivated us to proposed a new method termed Robust Hausman Test (RHTFIID) which employed residuals from weighted least square (WLS) instead of OLS in the construction of heteroscedasticity consistent covariance matrix (HCCM) estimator. The weighting method is based on an efficient High Leverage Points (HLPs) detection method called Fast Improvised Influential Distance (FIID) which down weight only vertical outliers and bad HLPs. The good HLPs were allowed in the estimation as they might contribute to the precision of the estimate. The result indicates that the new proposed RHTFIID outperformed the existing classical Hausman pretest by identifying the right model with and without heteroscedasticity and influential observations.