The Paris Agreement was a milestone that highlighted the importance of achieving zero net greenhouse gas emissions by 2050 to prevent ecological disaster. In their working paper, De Haas, Martin, Muuls, and Schweiger (2021) identify two important barriers that can limit the green transition potential for the private sector: funding constraints and poor firm management.
The starting point of the research
The authors try to examine the importance of green management and financial barriers in green investments within European emerging economies. Inadequate green management can delay the transition to a sustainable business model for a firm, whereas financial barriers may hamper the ability of the firm to invest in greener technologies. Intuitively, these two limitations can delay the process of climate change mitigation.
In the paper, green management is measured by whether a firm has a clear environmental objective or employs a manager with explicit environmental targets, such as CO2 emissions or pollution targets). A factor that affects green management is whether the firm was exposed to extreme weather events.
Financial constraints are defined by whether a firm was declined access to bank lending or was discouraged to ask for it due to unfavorable financial conditions. Some examples of these were high collateral value requirements and elevated interest rates.
Green investments are identified as physical capital upgrades, investments in operational and energy improvements, waste management and reduction, and pollution control. For instance, such an investment is the installation of photoelectric cells that reduce electricity bills. Thus, financial barriers and low–quality management that limit this kind of investments create a lose-lose situation, both for corporations and the environment.
Main results
The authors find that green management and financial constraints play a significant role in green investments that eventually influence climate change abatement. More specifically:
Financial barriers at the individual firm level reduce the probability of the firm making at least one green investment for the next three years by 3.7 percent, with the effect being more significant in machinery and vehicle upgrades.
An improvement in green management increases the quality of green investments by 8.5 percent, with the greater effect observed on water and waste management, air and pollution control, and energy efficiency measures. Figure 1 represents the percentage change of green investments for each category of investment in the vertical axis due to a change in financial or management barriers.
Figure 1: The effects of financial and management constraints on green investments
Source: De Haas et al (2021)
The paper found that the quality of green management plays a more important role than financial barriers when it comes to green investment limitations. Furthermore, limited green investments may effectively hinder the firm’s ability to reduce its environmental footprint, translated into higher greenhouse gas emissions and pollution.
An additional noteworthy result of the paper is that banks affected more by the 2008 financial crisis increased financial barriers to local firms by issuing fewer loans, which led to reduced green investments and effectively slower decrease of production emissions. In particular, they found that local emissions would have been 15 percent less, had the financial crisis not occurred.
This latter remark is pertinent for the current economic crisis induced by the pandemic. As the authors explain, it might be the case that in the short – term decarbonization increased. However, it is possible that in the long – run emissions will increase again. This is because a crisis dampens the ability of the firms to reduce emissions, as a result of the financial barrier channel.
Concluding…
Financial limitations in the form of constrained funding and poor management quality seem to reduce a firm’s ability to implement green investments and eventually reduce the speed of air pollution decline by industrial production. Moreover, financial crises seem to delay the green transition process, since they impose an additional financial barrier to firms, with possibly catastrophic results for climate change.
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