Estimating Capabilities with Structural Equation Models: How Well are We Doing in a ‘Real’ World?

Measuring capabilities is a major challenge for the operationalization of the capability approach. Structural equation models (SEM) are being increasingly used as one possible methodology for estimating capabilities, but a certain skepticism remains about their appropriateness. In this paper, we perform a unique simulation experiment for testing the validity of such estimators. Using an agent-based modeling tool, we simulate a ‘real’ life scenario with individuals of heterogeneous characteristics and behaviors, having different capability sets, and making different decisions. We then run a SEM (MIMIC) model on the data generated in this simulated world to estimate the individual capabilities. Thus our data generating process is completely disconnected with the econometric model used for estimation. Our results support the idea that SEM can coherently estimate the true capabilities. We find that the linear predictor from the structural part of the SEM provides better results than the ‘classical’ factor scores based on the full model.