The Input-Output Approach to Instrument Selection

John Shea , Journal of Business and Economic Statistics 11(2) , 145-155 , April 1993.

This article proposes a new method of selecting demand-shift instruments for disaggregated industries. I use prior information from input-output tables to identify industries whose output fluctuations are likely to function as approximately exogenous demand shocks for other industries. After motivating this idea theoretically, I implement the input-output approach using data from the 1977 detailed input-output study. I conduct a systematic instrument search for over 450 U.S. manufacturing industries and find over 200 industries possessing plausible instruments. I conclude with a brief application, showing how input-output instruments can be used to estimate the short-run supply curve of the cement industry.

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