The New Palgrave Dictionary of Economics

2018 Edition
| Editors: Macmillan Publishers Ltd

Fixed Effects and Random Effects

  • Badi H. Baltagi
Reference work entry


Unobservable individual effects in panel data models are employed to control for heterogeneity. These can be thought of as random variables that are uncorrelated with the regressors, thus generating a random effects model. Alternatively, these random individual effects are allowed to be completely correlated with the regressors, thus generating a fixed effects model. The choice between these two alternatives is usually settled using a Hausman (Econometrica 46:1251–1271, 1978) test. This article argues that one should interpret a rejection by the Hausman test as a rejection of the random effects model, not necessarily an endorsement of the fixed effects model.


Attrition Autocorrelation Cross-section data Fixed effects Haavelmo, T Heteroskedasticity Instrumental variable estimators Least squares dummy variables (LSDV) model Multicollinearity Over-identification Panel data Random effects Sample selection 

JEL Classification

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© Macmillan Publishers Ltd. 2018

Authors and Affiliations

  • Badi H. Baltagi
    • 1
  1. 1.