Introduction to Differences-in-Differences
-
0:00 - 0:03- [Teacher] The path
from cause to effect -
0:03 - 0:06is dark and dangerous,
-
0:06 - 0:09but the weapons
of econometrics are strong. -
0:09 - 0:14Wield differences-in-differences
when witnessing parallel trends. -
0:14 - 0:17♪ [music] ♪
-
0:20 - 0:21Masters of metrics
-
0:21 - 0:25look for convincing
ceteris paribus comparisons. -
0:25 - 0:29The ideal comparison contrasts
treatment and control groups -
0:29 - 0:31that look similar.
-
0:31 - 0:35But sometimes this sort
of comparability is elusive. -
0:35 - 0:37When treatment and control groups
-
0:37 - 0:40evolve similarly
in the absence of treatment, -
0:40 - 0:42even if from different
starting points, -
0:42 - 0:45there's hope for causal inference.
-
0:46 - 0:48The weapon that exploits
parallel evolution, -
0:49 - 0:51masters say "parallel trends,"
-
0:51 - 0:53is called differences-in-differences...
-
0:53 - 0:54- [Man whispering]
Differences-in-differences... -
0:54 - 0:57- ...or DD for short.
- [Man] Alright. -
0:57 - 1:00- Let's see how DD
can help us understand -
1:00 - 1:03one of the most important
economic events -
1:03 - 1:04in U.S. history.
-
1:05 - 1:08- [Joshua] Look back with me now
at the Great Depression -- -
1:09 - 1:12the worst economic catastrophe
our country has ever known. -
1:13 - 1:16Unemployment hit 25% in 1933 --
-
1:17 - 1:19a level not seen before or since.
-
1:19 - 1:22Millions lost their homes
or their land. -
1:23 - 1:25Suicide spiked, and hungry families
-
1:25 - 1:27relied on soup kitchens
and bread lines -
1:27 - 1:28to keep from starving.
-
1:29 - 1:32- Economists argue fiercely
-
1:32 - 1:34over the causes
of the Great Depression. -
1:34 - 1:37Most agree, however,
that a key piece of the puzzle -
1:37 - 1:39is an epidemic of bank failures.
-
1:40 - 1:42This was before deposit insurance.
-
1:42 - 1:47So if your bank went bankrupt,
your savings disappeared with it. -
1:47 - 1:48- [Cashier] Closing your account?
-
1:48 - 1:49- [Customer] Yes, sir.
I'm closing my account. -
1:49 - 1:51I wouldn't leave a nickel
in this bank. -
1:53 - 1:56- Faced with a banking crisis,
the Central Bank has a choice: -
1:56 - 1:59lend freely to troubled banks
-
1:59 - 2:01or stand aside and refuse to lend.
-
2:02 - 2:05Lending freely to banks in trouble
is called "easy money." -
2:05 - 2:08Refusing to lend
is called "tight money." -
2:10 - 2:13- [Joshua] Monetarist masters
Milton Friedman and Anna Schwartz -
2:13 - 2:15famously called
the Great Depression -
2:15 - 2:16the "Great Contraction,"
-
2:17 - 2:18accusing the Federal Reserve
-
2:18 - 2:21of inflicting a misguided policy
of tight money -
2:21 - 2:24on the nation's teetering
financial institutions. -
2:24 - 2:26They argued that easy money
-
2:26 - 2:28would have kept
many banks in business, -
2:28 - 2:30shortening the Great Depression.
-
2:30 - 2:32But others disagree!
-
2:32 - 2:34If banks are insolvent
-
2:34 - 2:36because of unwise
lending decisions, -
2:36 - 2:39then bailouts just encourage
more foolishness. -
2:40 - 2:43Economists called this problem
"moral hazard." -
2:43 - 2:46The debate over bailouts
and moral hazard continues today. -
2:46 - 2:49Should financial behemoth
Lehman Brothers -
2:49 - 2:52had been allowed to fail
on the eve of the Great Recession, -
2:52 - 2:55in an ideal world,
we'd answer this question -
2:55 - 2:58by applying different Fed policies
to randomly selected regions. -
2:59 - 3:00But we can still learn a lot
-
3:00 - 3:02by using differences-in-differences
-
3:02 - 3:06to compare trends across areas
with different monetary policies. -
3:11 - 3:13- [Camilla] How's that even possible?
-
3:13 - 3:16Don't the same Fed policies
apply to all banks in the U.S.? -
3:16 - 3:17- [Man] Yeah.
- Good question. -
3:18 - 3:21The Federal Reserve System
is divided into 12 districts, -
3:21 - 3:24each headed by a regional bank.
-
3:24 - 3:27Today, Fed policy is set
at the national level. -
3:27 - 3:32But in the 1930s, regional Feds
could do pretty much as they liked. -
3:32 - 3:33- [Man] Ah, interesting.
-
3:33 - 3:36- And here's what's
so awesome about that. -
3:36 - 3:39In 1930, the Atlanta Fed,
running the 6th district, -
3:39 - 3:41followed an easy money policy,
-
3:41 - 3:45sending wheelbarrows of cash
to rescue insolvent institutions. -
3:46 - 3:49The St. Louis Fed,
running the 8th district, -
3:49 - 3:51followed a tight money policy.
-
3:51 - 3:54"Let fail the foolish!"
they said in St. Louis. -
3:54 - 3:58And so a natural experiment
in monetary policy was born. -
3:59 - 4:02Even better, this is
a within-state experiment. -
4:02 - 4:04The border between the 6th
and the 8th districts -
4:04 - 4:07ran smack through
the middle of Mississippi. -
4:07 - 4:09So northern Mississippi
had tight money, -
4:09 - 4:12while southern Mississippi
had easy money, -
4:12 - 4:15but under the same state laws
and banking regulations in both. -
4:16 - 4:17- [Teacher] The treatment group
-
4:17 - 4:20is the district 6 part
of Mississippi, -
4:20 - 4:23which had access to easy money
during the crisis. -
4:24 - 4:25The control group
-
4:25 - 4:28is the district 8 part
of Mississippi, -
4:28 - 4:30which had tight money
during the crisis. -
4:31 - 4:34The key year
in our natural experiment -
4:34 - 4:35was 1930.
-
4:36 - 4:37Caldwell & Company,
-
4:37 - 4:40a massive financial empire
in the South, -
4:40 - 4:42came crashing down.
-
4:43 - 4:46Banking is a business
built on confidence and trust. -
4:46 - 4:49The Caldwell meltdown
caused a panic -
4:49 - 4:53that led to a widespread
bank run all at once. -
4:53 - 4:55Depositors wanted their money back,
-
4:55 - 4:58causing banks to go bankrupt
and shut their doors. -
5:01 - 5:03We'll use differences-in-differences
-
5:03 - 5:07to measure the effect
of contrasting monetary policies -
5:07 - 5:09in response to the Caldwell crisis.
-
5:12 - 5:16This figure plots the number
of banks in Mississippi by year, -
5:16 - 5:19for the 8th and 6th districts.
-
5:19 - 5:21Let's start in 1929,
-
5:21 - 5:24a year before the Caldwell crash.
-
5:24 - 5:28There are 169 banks
open in the 8th, -
5:28 - 5:31and 141 banks open in the 6th.
-
5:31 - 5:33Over the next year,
-
5:33 - 5:37we see a similar handful
of banks fail, in both districts. -
5:37 - 5:40The change in the number
of banks in operation -
5:40 - 5:42is remarkably similar --
-
5:42 - 5:45that's what parallel trends look like.
-
5:46 - 5:49In November 1930, Caldwell crashes,
-
5:49 - 5:50and the panic begins.
-
5:51 - 5:54Banks failed frequently
in the 8th district, -
5:54 - 5:55which had tight money.
-
5:56 - 5:59But the decline is slower
in the 6th district, -
5:59 - 6:00which had easy money.
-
6:01 - 6:03Diverging trends in this period
-
6:03 - 6:07might be attributable
to easy versus tight money. -
6:07 - 6:12In July of 1931, the 8th district
abandons tight money, -
6:12 - 6:14so now both districts are easy.
-
6:15 - 6:17Parallel trends are restored.
-
6:17 - 6:19In a counterfactual world,
-
6:19 - 6:22where the 6th district
follows a tight money policy, -
6:22 - 6:24what might have happened?
-
6:24 - 6:29If we extrapolate the trend
of the 8th district to the 6th, -
6:29 - 6:30it would look like this.
-
6:30 - 6:33So the treatment-effective
easy money -
6:33 - 6:36is how much the 6th district
deviated from the path -
6:36 - 6:39implied by the 8th district trend.
-
6:41 - 6:44How many banks
did the easy money treatment save? -
6:44 - 6:49This table reports data
for the treatment group, district 6, -
6:49 - 6:50in the first row,
-
6:50 - 6:54and data for the control group,
district 8, in the second row. -
6:54 - 6:57The first column shows
the number of banks in business -
6:57 - 7:01before the crisis began in 1930.
-
7:01 - 7:04The second column shows 1931.
-
7:04 - 7:06This is the key period
-
7:06 - 7:09when each district
had differing monetary policies -
7:09 - 7:10during the crisis.
-
7:10 - 7:14The rightmost column
reports changes within the district. -
7:14 - 7:20District 6 lost 14 banks,
while district 8 lost 33. -
7:20 - 7:24The mathematical formula
for the treatment effect is simple. -
7:24 - 7:28We subtract the change in banks
in operation in the 8th district -
7:29 - 7:32from the change in banks
in operation in the 6th. -
7:33 - 7:36Hence, the name
"differences-in-differences." -
7:37 - 7:42-14 minus -33 equals 19.\]
-
7:42 - 7:47We estimate that 19 banks
were saved by easy money. -
7:47 - 7:51In practice, tables and figures
like those shown here -
7:51 - 7:53are the beginning
rather than the end -
7:53 - 7:54of a DD analysis.
-
7:55 - 7:57The problem of how to gauge
-
7:57 - 8:00the statistical significance
of DD estimates -
8:00 - 8:02turns out to be exceedingly tricky,
-
8:02 - 8:06and a regression is typically
part of the solution. -
8:09 - 8:12The key assumption
behind a valid DD analysis -
8:12 - 8:15is that of parallel trends.
-
8:15 - 8:18Recall the principle
of ceteris paribus. -
8:18 - 8:21Our ideal comparison
would have the two districts -
8:21 - 8:24experience an identical
business environment, -
8:24 - 8:26except for one factor:
-
8:26 - 8:28easy or tight money.
-
8:29 - 8:32Both districts would have
identical types of customers -
8:32 - 8:35who would go bankrupt
at exactly the same rate. -
8:36 - 8:39The skill of their employees
would be equal, and so on. -
8:39 - 8:43Perfect ceteris paribus comparisons
would allow us to clearly see -
8:43 - 8:47the causal effect
of different Fed policies. -
8:47 - 8:49In this case, that's not possible.
-
8:49 - 8:54But the idea of parallel trends
is based on a similar concept. -
8:54 - 8:57If we see that the two regions
experience similar trends -
8:57 - 9:00in the number of banks over time,
-
9:00 - 9:01in the absence of treatment,
-
9:01 - 9:04we can assume
they are good comparisons. -
9:04 - 9:07We see that the two districts
move in parallel, -
9:07 - 9:10both before the crisis and after,
-
9:10 - 9:12when they have the same Fed policy.
-
9:13 - 9:16The only time the districts
behave differently -
9:16 - 9:18is when the Fed policy is different.
-
9:19 - 9:21In view of this,
-
9:21 - 9:24Fed policy is a likely cause
of diverging trends -
9:24 - 9:27from 1930 to 1931.
-
9:28 - 9:30But we should also check
for other changes -
9:30 - 9:32unique to northern Mississippi.
-
9:32 - 9:33- [Man] Huh?
- What do you mean? -
9:34 - 9:35- [Teacher] Imagine that bad tornadoes
-
9:35 - 9:39hit northern but not
southern Mississippi in 1930. -
9:40 - 9:42These tornadoes devastate farms,
-
9:42 - 9:44causing farmers
to default on loans, -
9:45 - 9:47which drives their banks
out of business. -
9:47 - 9:49Then the 6th and 8th districts
-
9:49 - 9:52would differ in not one
but two ways: -
9:53 - 9:55Fed policy and weather.
-
9:55 - 9:58And we'd have trouble
identifying Fed policy -
9:58 - 10:02as the causal factor
behind increased bank failures -
10:02 - 10:03in the 8th.
-
10:03 - 10:04- [Man] Ceteris is not paribus.
-
10:07 - 10:09- DD credibility lives or dies
-
10:09 - 10:11with the claim that the only reason
-
10:11 - 10:14northern Mississippi
was special in 1930 -
10:14 - 10:16is differing regional Fed policy.
-
10:17 - 10:21We're in DD heaven with strong,
visual evidence of parallel trend. -
10:21 - 10:26- In general, the first step
in evaluating whether to use DD -
10:26 - 10:30is usually this type of visual
confirmation of parallel trends -
10:30 - 10:32outside of the period,
-
10:32 - 10:35when we expect to see
a treatment effect. -
10:35 - 10:37The treatment in our example
-
10:37 - 10:40is easy money
in the face of bank failures. -
10:40 - 10:45Metrics masters use DD
to explore effects of many policies, -
10:46 - 10:48like the minimum legal drinking age,
-
10:48 - 10:52and environmental changes,
like access to clean water. -
10:53 - 10:54In our next video,
-
10:54 - 10:57we'll see an example
of how regression is used -
10:57 - 10:59to implement a DD approach.
-
11:01 - 11:02- [Narrator] Are you a teacher?
-
11:02 - 11:06Click to explore ways
to use these videos in class. -
11:06 - 11:09If you're a learner,
make sure this video sticks -
11:09 - 11:11by taking a few quick
practice questions. -
11:12 - 11:14Or if you're ready,
click for the next video. -
11:15 - 11:17You can also check out
MRU's website -
11:17 - 11:20for more courses,
teacher resources, and more. -
11:20 - 11:22♪ [music] ♪
- Title:
- Introduction to Differences-in-Differences
- ASR Confidence:
- 0.86
- Description:
-
MIT's Josh Angrist introduces differences-in-differences with one of the worst economic events in history: the Great Depression.
Economists still argue about the causes of the Great Depression, but most agree that a key piece of the puzzle was an epidemic of bank failures. Over 9,000 banks failed from 1930 to 1933!
Could the Federal Reserve have prevented this catastrophe?
At the time, regional Federal Reserve branches had considerable policy independence. Some branches helped troubled banks with “easy money”. Others did not, following a “tight money” policy.
Metrics wizards Gary Richardson and William Troost used differences-in-differences to analyze a natural experiment in Mississippi, where one half of the state had tight money while the other half had easy. What did they find?
This introduction to differences-in-differences covers the following:
- Bank failures during the Great Depression
- Easy versus tight monetary policies; moral hazard
- Parallel data trends
- Calculating the treatment effect
- Assumptions for a valid differences-in-differences analysis**INSTRUCTOR RESOURCES**
Troost/Richardson paper: https://www.journals.uchicago.edu/doi/abs/10.1086/649603
Econometrics test bank: https://mru.io/kt2
High school teacher resources: https://mru.io/o15
Professor resources: https://mru.io/t0f
EconInbox: https://mru.io/sm5**MORE LEARNING**
Try out our practice questions: https://mru.io/wfd
See the full course: https://mru.io/469
Receive updates when we release new videos: https://mru.io/7g2
More from Marginal Revolution University: https://mru.io/c30 - Video Language:
- English
- Team:
- Marginal Revolution University
- Project:
- Mastering Econometrics
- Duration:
- 11:22
Kirstin Cosper edited English subtitles for Introduction to Differences-in-Differences | ||
Kirstin Cosper edited English subtitles for Introduction to Differences-in-Differences | ||
Theresa Ranft edited English subtitles for Introduction to Differences-in-Differences | ||
Theresa Ranft edited English subtitles for Introduction to Differences-in-Differences | ||
Theresa Ranft edited English subtitles for Introduction to Differences-in-Differences | ||
Theresa Ranft edited English subtitles for Introduction to Differences-in-Differences | ||
Theresa Ranft edited English subtitles for Introduction to Differences-in-Differences | ||
Theresa Ranft edited English subtitles for Introduction to Differences-in-Differences |