What type of study is this?

This is a Difference-in-Differences study.

September 5, 2025Open Access

ESG and Carbon Leakage: How Cap‐and‐Trade Regulations Influence Firms' Emission Allocation Strategies

Key Points

Firms with poor ESG commitment increase emissions outside California while reducing them locally.
Those with strong ESG initiatives mitigate domestic carbon leakage but see a rise in Scope 3 emissions.
The study employs a difference-in-differences approach using California's cap-and-trade program.
These findings stress the importance of emissions accounting to prevent greenwashing in a global context.

Abstract

ABSTRACT This study examines how firms respond to state‐level climate regulation depending on their ESG status. Using facility‐level emissions data and firm‐level ESG indicators, I employ a difference‐in‐differences strategy that exploits California's cap and trade program. Difference‐in‐Difference estimation results show that regulated firms reduce emissions at California facilities but increase emissions elsewhere, and this leakage is concentrated among firms lacking ESG motivation. However, companies committed to ESG avoid domestic leakage but increase Scope 3 emissions, suggesting a shift to carbon‐intensive activities abroad. These findings highlight the dual role of ESG: constraining carbon leakage domestically while potentially enabling global outsourcing. The study contributes to the literature on ESG governance and regulatory arbitrage and calls for stronger emissions accounting to prevent greenwashing and improve policy effectiveness under globalization.

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