THE TOBIT MODEL

• Continuous over strictly positive values

but is zero for a nontrivial fraction of the
population.

• The Tobit model is most easily defined

as a latent variable model:

P(y*=y/x)
 • partial effects of the xj on E(y*/x), where
y* is the latent variable: β j

BUT MORE INTERESTING

Substituting:
 • This equation also shows why using
OLS only for observations where yi >0
will not always consistently estimate β ;
essentially, the inverse Mills ratio is an
omitted variable, and it is generally
correlated with the elements of x.

Partial Derivative:Conditional on being

Uncensored

• It can be shown that the adjustment

factor is strictly between zero and one

Partial Derivative:”Unconditional”
Substituting we get:

• The Tobit model, and in particular the

formulas for the expectations, rely
crucially on normality and
 homoskedasticity in the underlying
latent variable model.

• One potentially important limitation of

the Tobit model, at least in certain
applications, is that the expected value
conditional on y >0 is closely linked to
the probability that y>0.
SAMPLE SELECTION CORRECTIONS

Define a selection indicator si for

each i by si = 1 if we observe all of
(yi,xi), and si =0 otherwise.

Consistency Requires:
CONSISTENT
• If s is a function only of the explanatory
variables, then sxj is just a function of x
exogenous sample selection

• If sample selection is entirely random in

the sense that si is independent of (xi,ui),
then E(sxju) =E(s)E(xju) =0, because
E(xju)=0

• If s depends on the explanatory variables

and additional random terms that are
independent of x and u, OLS is also
consistent and unbiased.

Incidental Truncation
• WAGE OFFERS
• the truncation of wage offer is
incidental because it depends on another
variable, namely, labor force
participation. (Observe all Xs for all
individuals)
• The selection equation, depends on
observed variables, zh and an
unobserved error, v.

• A standard assumption, which we will

make, is that z is exogenous

• HERE we will require that x be a strict

subset of z: any xj is also an element of
z, and we have some elements of z that
are not also in x.

• The error term v in the sample selection

equation is assumed to be independent
of z (and therefore x)
.

• We also assume that v has a standard

normal distribution
• Assume that (u,v) is independent of z.

Now, if u and v are jointly normal (with zero

mean), then

Therefore:
We do not observe v, but we can use this
equation to compute E(y/z,s) and then
specialize this to s =1.

Using selection equation and normality:

This equation shows that we get β using

only the selected sample, provided we
include the term as an additional
regressor.
• including all elements of x in z is not
very costly; excluding them can lead to
inconsistency if they are incorrectly
excluded.

• A second major implication is that we

have at least one element of z that is not
also in x. This means that we need a
variable that affects selection but does
not have a partial effect on y. This is not
absolutely necessary to apply the
procedure—in fact, we can mechanically
carry out the two steps when z = x—but
the results are usually less than
convincing unless we have an exclusion
restriction
• The reason for this is that while the
inverse Mills ratio is a nonlinear
function of z, it is often well-
approximated by a linear function. If z =
x, λ can be highly correlated with the
elements of xi. As we know, such multi-
collinearity can lead to very high
standard errors for the β j .