Question

For evaluating the effect of a policy change, the most difficult empirical challenge is the fact that we cannot observe the counterfactual, i.e. what would have happened if the policy change never occurred?

Explain how we can use panel data to address this concern.

Answer 1

Panel data is a type of data which has both cross-sectional and time series characteristics. So, it contains the datapoints of different entities at the same time as well as datapoints at different time for each entity.

Thus, if we consider different countries which are similar to our country of concern, then some of them may have similar policies already. After that, we may use difference in difference approach whereby we estimate the effects of that policy by taking the difference between the ones which implemented the policy and the ones which did not after eliminating the effect of other variables.