Mitigating excessive financialization or promoting innovation? Productivity effects of China's carbon emission trading scheme

The success of the carbon emissions trading scheme (ETS) in fostering a mutually beneficial outcome for both the economy and the environment depends on its ability to enhance total factor productivity (TFP). We investigate the diverse implementation of this market-based environmental policy across Chinese provinces using a staggered Difference-in-Differences model. Our study delves into the mechanisms of the ETS, particularly focusing on financialization and innovation, utilizing listed companies in Chinese stock markets as our research sample spanning from 2009 to 2022. Our analysis shows several key findings: (1) ETS facilitates the growth of TFP in micro-firms, positively influencing other listed companies within the same sector and city. However, its impact on TFP is notably weaker in regions with robust environmental information disclosure and stringent environmental regulations. (2) The ETS helps alleviate resource misallocation stemming from excessive financialization of firms, prompting them to reallocate investments from financing activities to production and operation activities, thus enhancing TFP. (3) Contrary to expectations, the ETS does not directly influence TFP through enhancing firm innovation ability; instead, it encourages directed technical innovation toward green technology over digital technology. This study highlights the effectiveness of the ETS in promoting firm development and sheds light on resource management practices within firms.