Determinants of CO2 emissions in European Union countries: Does environmental regulation reduce environmental pollution?

Abstract

There is no doubt that economic growth is one of the main drivers of pollution. Climate change, caused by increased emissions, has harmful and irreversible effects on economies as a whole. This paper intends to contribute to the current debate on the factors that help reduce emissions, by presenting empirical evidence on the role of environmental regulation in this process. Specifically, this research aims to fill a gap in the literature by focusing on the effects on carbon dioxide emissions of market-based regulations, regulatory policies to incentivize the deployment of renewables, and foreign direct investment. To accomplish this objective, it uses yearly data from 1995 to 2017 for 17 European Union (EU) countries. To control for potential endogeneity, and to study the short- and the long-run effects individually, an Autoregressive Distributed Lag model was used with a Driscoll–Kraay estimator. The main findings show that environmental regulation is effective in cutting CO2 emissions in the long-run. Additionally, policies supporting renewable energy sources tend to reduce CO2 emissions in both the short- and long-run. The effectiveness of these policies is further demonstrated by a reduction in carbon dioxide emissions due to foreign direct investment, suggesting that the EU is successfully attracting high-quality and innovative investment. The pollution halo hypothesis was also validated for EU countries.