The Econometrics of Utility Transferability in Dyadic Network Formation Models

TL;DR

This paper compares methods for estimating individual preferences in dyadic network formation, focusing on the assumptions of utility transferability and symmetry, and provides tests and applications demonstrating their practical implications.

Contribution

It establishes conditions under which transferable and non-transferable utility estimators are consistent and introduces a test for utility transferability validity.

Findings

Transferable utility estimators are valid under symmetric regressors.

Non-transferable utility estimators are consistent with asymmetric regressors.

A specification test can assess the validity of the transferable utility assumption.

Abstract

This paper studies how to estimate an individual's taste for forming a connection with another individual in a network. It compares the difficulty of estimation with and without the assumption that utility is transferable between individuals, and with and without the assumption that regressors are symmetric across individuals in the pair. I show that when pair-specific regressors are symmetric, the sufficient conditions for consistency and asymptotic normality of the maximum likelihood estimator that assumes transferable utility (TU-MLE) are also sufficient for the maximum likelihood estimator that does not assume transferable utility (NTU-MLE). When regressors are asymmetric, I provide sufficient conditions for the consistency and asymptotic normality of the NTU-MLE. I also provide a specification test to assess the validity of the transferable utility assumption. Two applications from different fields of economics demonstrate the value of my results. I find evidence of researchers using the TU-MLE when the transferable utility assumption is violated, and evidence of researchers using NTU-model-based estimators when the validity of the transferable utility assumption cannot be rejected.