The impact of climate finance on environmental sustainability: Empirical evidence from a cross-country analysis

Abstract

Climate finance refers to financial resources mobilized to support efforts in reducing greenhouse gas emissions and adapting to the adverse impacts of climate change. It is widely regarded as a critical instrument contributing to environmental sustainability. However, there remains ongoing debate regarding the actual effectiveness of these financial flows in practice. This study seeks to provide empirical evidence on the impact of climate finance on environmental sustainability, utilizing panel data from 24 countries over the period 2012- 2022. To enhance the reliability of the results and address common econometric issues such as heteroskedasticity, cross-sectional dependence, and endogeneity, the study employs a combination of methodologies: Panel-Corrected Standard Errors (PCSE), Feasible Generalized Least Squares (FGLS), and the two-step Generalized Method of Moments (GMM) estimator. The analysis provides statistically significant evidence that climate finance exerts a negative impact on all three key indicators of environmental sustainability: the Environmental Performance Index, Environmental Health, and Ecosystem Vitality. Furthermore, the study finds that population and savings rate negatively influence environmental sustainability, while economic growth has a positive effect. These findings suggest that, if not properly monitored and strategically designed, climate finance could result in unintended environmental consequences. In other words, policymakers must develop robust institutional frameworks to ensure that climate finance is appropriately directed and genuinely contributes to environmental protection and sustainable development.