Heteroscedastic Two-Stage Least Squares Regression with PROC MODEL
Overview
Heteroscedastic two-stage least squares regression is a modification of the traditional two-stage least squares used to estimate simultaneous equation models when the disturbances are heteroscedastic. One can use the MODEL procedure in SAS/ETS to compute the two-stage heteroscedastic estimates.
Details
Consider the general nonlinear simultaneous equations model
where 
The nonlinear two stage least squares (N2SLS) is a commonly used single equation estimation method that consists of using instrumental variables (IV) that are uncorrelated with the disturbances to obtain predicted values for the endogenous variables. Such predicted values replace the right hand side endogenous variables in the model to obtain consistent estimates of the parameters.
Formally, the N2SLS estimator θ is the value that minimizes the quantity
A key assumption of N2SLS is that the disturbances are i.i.d.. In the presence of heteroscedasticity, the 2SLS estimator is still consistent but no longer efficient.
In such case, the nonlinear heteroscedastic 2SLS (NH2SLS) estimator is a single-equation estimator that attains a gain in efficency with respect to the N2SLS estimator by weighting observations with White's estimate of the error correlation matrix.
Formally, the NH2SLS estimator is obtained by minimizing the following quantity:
where
Note that the NH2SLS can be interpreted as a GMM estimator where the variance of the moment function V is taken to be block-diagonal. Each block, corresponding to each single equation, is estimated using the residuals from the N2SLS estimates.
The following table illustrates the relationship among some commonly used estimation methods for simultaneous equation models.
Table 1.1: Summary of PROC MODEL Estimation Methods
| Method | Objective Function |
| N2SLS |     |
| NH2SLS |  |
| N3SLS |
|
| GMM |  |
where mn is first moment of the crossproduct 
Klein's Model
The following is the well known Klein's (1950) model I, along with an excerpt of the data. The complete data can be found in the SAS code attached, along with the code used in this example.
-
options ls=80; data klein; input year c p w i x wp g t k wsum; ... more datalines ... 1934 48.7 12.3 30.6 -3.0 49.7 6.0 4.0 6.8 199.0 36.6 1935 51.3 14.0 33.2 -1.3 54.4 6.1 4.4 7.2 197.7 39.3 1936 57.7 17.6 36.8 2.1 62.7 7.4 2.9 8.3 199.8 44.2 1937 58.7 17.3 41.0 2.0 65.0 6.7 4.3 6.7 201.8 47.7 1938 57.5 15.3 38.2 -1.9 60.9 7.7 5.3 7.4 199.9 45.9 1939 61.6 19.0 41.6 1.3 69.5 7.8 6.6 8.9 201.2 49.4 1940 65.0 21.1 45.0 3.3 75.7 8.0 7.4 9.6 204.5 53.0 1941 69.7 23.5 53.3 4.9 88.4 8.5 13.8 11.6 209.4 61.8 ; run;
The endogenous variables are on the left hand side of the equations. The exogenous variables are government wage bills, Wg, government spending, G, indirect business taxes plus net export, T, the time trend in terms of years from 1931, Yt, and the constant terms.
The following PROC MODEL statements estimate the model using 2SLS and store the estimated variance of the moment functions 
proc model data=klein;
instruments klag plag xlag wp g t yr;
c=c0 + c1*p + c2*plag + c3*wsum;
i=i0 + i1*p + i2*plag + i3*klag;
w=w0 + w1*x + w2*xlag + w3*yr;
fit c i w / 2sls outv=vdata vardef=n kernel=(bart,0,);
title '2sls results';
run;
quit;
The VARDEF=n and KERNEL=(bart, 0,) options have been used so that no correction for degrees of freedom or smoothing over time are performed when the matrix
One can estimate the model with H2SLS using the GMM method with the variance matrix
The following SAS statements create the block-diagonal matrix 
data vblkdiag;
set vdata;
if (eq_row ^= eq_col) then value=0; /* make V block-diagonal */
proc print data=vblkdiag(obs=15);
title 'Block-diagonal V-matrix';
run;
The block-diagonal matrix
proc model data=klein;
instruments klag plag xlag wp g t yr;
c=c0 + c1*p + c2*plag + c3*wsum;
i=i0 + i1*p + i2*plag + i3*klag;
w=w0 + w1*x + w2*xlag + w3*yr;
fit c i w / no2sls gmm vdata=vblkdiag vardef=n nogengmmv;
title 'H2SLS results';
run;
quit;
The results of the estimation are shown in Figure 1 . You can compare them with Greene (1997), p. 760.
The MODEL Procedure
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Figure 1: H2SLS Results
References
Greene, W.H. (1997), Econometric Analysis, Third Edition, Upple Saddle River, NJ: Prentice Hall, Inc.
Klein, L. (1950), Economic Fluctuations in the Unites States 1921-1940. New York: John Wileys and Sons.
SAS Institute, Inc. (1999), SAS/ETS User's guide, Version 8, Volume 2, Cary, NC: SAS Institute, Inc.
SAS Institute, Inc. (2003), SAS/ETS User's guide, Version 9, Cary, NC: SAS Institute, Inc.
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