In search of stock market incentives for decarbonization

The carrot and the action: in search of stock market incentives for decarbonization

Author/Editor:

Laurent Millischer; Tatyana Evdokimova; Oscar Fernandez



Publication date:

November 18, 2022

Electronic access:

Free download. Use the free Adobe Acrobat Reader software to view this PDF file



Disclaimer: IMF Working Papers describe ongoing research by the author(s) and are published to elicit comment and encourage debate. The opinions expressed in IMF Working Papers are those of the authors and do not necessarily represent the views of the IMF, its Executive Board, or IMF management.


Summary:

Financial markets can support the transition to a low-carbon economy by redirecting funds from high-emissive investments to clean investments. We investigate whether European stock markets incorporate carbon prices into company valuations and to what extent they discriminate against companies with different carbon intensities. Using a new dataset of stock prices and carbon intensities of 338 listed European companies between 2013 and 2021, we find a statistically significant relationship between weekly changes in carbon prices and stock returns. Fundamentally, this relationship depends on the carbon intensity of companies: the higher the carbon costs a company faces, the worse its stock performance during periods of rising carbon prices. Emissions covered by free allowances, however, do not affect this relationship, illustrating how carbon pricing and disclosure are necessary for financial markets to promote climate change mitigation. The relationship we identify can incentivize companies to decarbonize. We argue for more ambitious carbon pricing policies, as this would strengthen the stock market incentive channel while entailing only limited risk to the financial stability of stocks.

About Nicole Harmon

Check Also

Should I cash in stocks at 57 to protect my life savings?

Dear Penny, I’m 57 with $285,000 in a brokerage account and about the same amount …