Financial levers and carbon emissions: analysing the debt-emission nexus in the European Union

Abstract

ABSTRACT This paper examines the intricate relationship between the national debts of EU-27 member countries and their CO2 emissions, employing the Logarithmic Mean Divisia Index additive model to dissect the impacts of different financial and economic factors on environmental sustainability. To thoroughly explore the evolution of CO2 emissions and influencing factors, the 27 economies analysed were classified into two categories (advanced economies and emerging economies). Furthermore, three sub-periods for analysis were set (1995–2007, 2008–2016, and 2017–2022). The study identifies significant correlations between debt structures, economic growth, energy consumption patterns, and CO2 emissions. The findings reveal that Economic Growth is the largest contributor to the CO2 emissions increase, followed by Total Debt Level. A powerful and constant counterbalancing effect of CO2 emissions reduction is assured by Fossil Fuel Financing. The results underscore the complex interplay between financial and environmental policies in the EU, emphasizing the need for balanced approaches to achieve climate goals. It suggests that investment in green technologies and renewable energy sources, alongside innovative financing mechanisms for green technologies, enhanced energy efficiency, and fiscal policies aimed at reducing national debts, can have the dual benefit of mitigating climate change while also enhancing economic stability within the EU.