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Donald P. Green, Soo Yeon Kim, and David H. Yoon argue that many findings in quantitative international relations that use the dyad-year design are flawed. In particular, they argue that the effect of democracy on both trade and conflict has been vastly overstated, that researchers have ignored unobserved heterogeneity between the various dyads, and that heterogeneity can be best modeled by “fixed effects,” that is, a model that includes a separate dummy for each dyad. We argue that the use of fixed effects is almost always a bad idea for dyad-year data with a binary dependent variable like conflict. This is because conflict is a rare event, and the inclusion of fixed effects requires us to not analyze dyads that never conflict. Thus while the 90 percent of dyads that never conflict are more likely to be democratic, the use of fixed effects gives democracy no credit for the lack of conflict in these dyads. Green, Kim, and Yoon's fixed-effects logit can tell us little, if anything, about the pacific effects of democracy. Their analysis of the impact of democracy on trade is also flawed. The inclusion of fixed effects almost always masks the impact of slowly changing independent variables; the democracy score is such a variable. Thus it is no surprise that the inclusion of dyadic dummy variables in their model completely masks the relationship between democracy and trade. We show that their preferred fixed-effects specification does not outperform a model with no effects (when that model is correctly specified in other ways). Thus there is no need to include the masking fixed effects, and so Green, Kim, and Yoon's findings do not overturn previous work that found that democracy enhanced trade. We agree with Green, Kim, and Yoon that modeling heterogeneity in time-series cross-section data is important. We mention a number of alternatives to their fixed-effects approach, none of which would have the pernicious consequences of using dyadic dummies in their two reanalyses.
Beck et al. (Mon,) studied this question.