Investigating the Causality Between Financial Development and Carbon Emissions: A Quantile-Based Analysis

The relationship between financial development and environmental sustainability has received significant attention in academic discourse. This study explores the crucial role of financial development in addressing the challenge of increasing CO₂ emissions. Using quantile-on-quantile and nonparametric causality-in-quantile methodologies, this research investigates the impacts and causal links between financial market and institution development and CO₂ emissions levels in five major polluting countries from 1990 to 2019. The findings provide strong evidence regarding the impact of financial institutions and financial market development on CO₂ emissions, demonstrating the presence of shocks and nonparametric causality from financial institutions and financial market development to CO₂ emissions quantiles. However, the effects of financial institution shocks and nonparametric causality are diverse and asymmetric across the sample. Positive and negative shocks are observed in India, while only negative shocks are observed in China, the USA, Russia, and Japan. Moreover, the findings reveal that the influence of financial market development on CO₂ emissions varies across countries, with both positive and negative shocks transmitted to CO₂ emissions in the USA, Russia, and Japan, indicating higher volatility in these countries compared to China and India, where only negative shocks are observed. Therefore, our recommendation emphasizes the prioritization of environmentally conscious financial products and the enhancement of the financial system's capacity to mitigate positive shocks contributing to increased CO₂ emissions. Implementing this strategy requires collective efforts to embrace sustainable financial practices that consider the environmental impact of financial activities.