The impact of policy stringency on green innovation and environmental performance: A system GMM analysis of 25 OECD countries

Type of the article: Research ArticleAbstractConsidering the increasing environmental pressures associated with economic growth and industrial expansion, improving environmental quality has become a central challenge for advanced economies. Green innovation is crucial for sustainable development, but its success largely depends on the regulatory context. This paper examines the relationship between green innovation and environmental degradation and assesses how market-based and non-market environmental policy instruments shape this relationship in 25 OECD countries over the period 2000–2020. Building on existing theoretical and empirical frameworks linking environmental regulation, technological innovation, and environmental performance, the study employs a dynamic panel modeling approach using a two-step System-GMM estimator to address endogeneity, heterogeneity, and the persistence of environmental indicators. Empirical results indicate that a 1% increase in green patent activity reduces CO2 emissions by 0.34% and the ecological footprint by 0.33%. Market-based instruments significantly decrease CO2 emissions and the ecological footprint with coefficients of –0.679 and –0.068, respectively, whereas non-market instruments are associated with increases in CO2 emissions and the ecological footprint with coefficients of +0.045 and +0.038, respectively. The interaction between market-based instruments and green innovation further reduces CO2 emissions and the ecological footprint, with coefficients of –0.00004 and –0.0006, respectively, while the interaction with non-market instruments also yields negative effects (–0.00001 and –0.00002). The aggregate environmental policy stringency index lowers CO2 emissions by 0.159 and the ecological footprint by 0.041, strengthening the innovation effect. Overall, the findings suggest that well-designed and coherent policy mixes are essential for maximizing green innovation’s environmental benefits in advanced economies.