The role of financial development in driving renewable energy adoption in emerging economies

Abstract

This study investigates the relationship between financial development and renewable energy consumption in emerging market economies, with particular emphasis on the specific financial channels through which the financial system may facilitate this transition. Financial development is first examined using a composite financial development index reflecting the overall evolution of the financial system. Subsequently, the aggregate measure is replaced with selected financial indicators representing banking-sector depth, stock market activity, and external private debt in order to identify whether they exert heterogeneous effects on renewable energy consumption. The empirical analysis is based on an annual panel of 20 IMF classified emerging economies characterised by increasing financial integration, rapid economic growth, and rising energy demand over the period 2000–2018. The baseline sample is restricted to the pre-pandemic period to minimise distortions associated with COVID-19 related structural disruptions, while additional robustness exercises using extended post-2018 observations and a structural break analysis are reported separately. Given the presence of mixed integration orders, persistence in renewable energy, and potential endogeneity within the finance–energy nexus, the study employs the Blundell–Bond system GMM estimator with collapsed internal instruments. Model adequacy is evaluated using Hansen/Sargan overidentification tests and Arellano–Bond serial-correlation diagnostics. The robustness of the findings is further examined through Difference GMM, fixed and random effects estimations, and Panel ARDL–Mean Group models. The results indicate that overall financial development contributes positively to renewable energy consumption in emerging economies. However, the disaggregated analysis reveals considerable heterogeneity across financial channels. In particular, stock market activity and liquidity related measures exhibit comparatively stronger associations with renewable energy consumption than banking sector depth or external private debt indicators. These findings suggest that the composition and maturity of financial systems matter for renewable energy transition, with market based financial structures appearing to play a more prominent role in supporting renewable energy investment within the study’s empirical setting.