An Empirical Model of Dyadic Link Formation in a Network with Unobserved Heterogeneity

Abstract I study a dyadic linking model in which agents form directed links that exhibit homophily and reciprocity. A fixed-effect approach accounts for unobserved sources of degree heterogeneity. I consider specification testing and inference with respect to the homophily and reciprocity parameters. The specification test compares observed transitivity to predicted transitivity. All test statistics account for the presence of an incidental parameter by using formulas based on an asymptotic approximation. In an application to favor networks in Indian villages, the specification test detects that the dyadic linking model underestimates the true transitivity of the network.