Green finance and environmental decentralization drive OECD low carbon transitions

Abstract

Carbon neutrality and sustainable development goals have become globally imperative, as evidenced by the Paris Agreement, and the Nationally Determined Contributions mechanism. At the recently ended COP28 climate summit, the majority of the participating countries encountered these challenges through financial commitments to attain their objectives of carbon neutrality for sustainable development. Green finance and environmental decentralization play key roles in realizing these targets. The core focus of this study is to demystify the impacts of green finance and environmental decentralization on sustainable development by employing a panel dataset comprising 44 OECD countries, spanning 1995–2022. Ecological footprint serves as an indicator of sustainable development. Financial investment directed towards climate change mitigation and climate change adaptation technologies with alternative output-input green finance indicators are used as measures for green finance. A new index was devised that incorporates multiple indicators of environmental decentralization to gauge its influence on sustainable development. Using OLS, Oster coefficient stability, Lewbel 2SLS, and Kiviet instrumental variable techniques, our findings demonstrate that green finance significantly enhances sustainable development across countries. The empirical findings reveal that green finance and environmental decentralization exhibit a positive, statistically significant influence on sustainable development in OECD countries, while also playing a mitigating role in the reduction of environmental degradation. Considering these findings, it is imperative that OECD countries formulate and implement policies that foster green financing and empower local governments. This formulation and authorization are crucial for reducing pollution through the stimulation of innovation in climate change mitigation and adaptation technologies. In doing so, these policies will substantially reinforce the achievement of the United Nations’ Sustainable Development Goals 9 and 12.

Introduction

Carbon neutrality is achieved when carbon dioxide emissions produced by an individual, product, corporation, or country are effectively neutralized by an equivalent amount being removed through the use of advanced technologies specifically designed for carbon offsetting^1,2. This pursuit is referred to as achieving net-zero emissions. To achieve net zero emissions, carbon neutrality propagates a precise balance of emissions over a certain period through the integration of mitigation (carbon capture, usage, and storage) and adaptation (carbon sequestration and conversion) technologies³ .This imperative is consistent with the international pledge made in the Paris Agreement, in which 197 countries vowed to limit global warming to a range of 1.5 to 2 °C. This agreement, with the key themes of mitigation, adaptation, and finance, was reached at COP27 in Sharm el-Sheikh, Egypt and was reiterated in 2023 at the 28th session of the United Nations Climate Change Conference (COP28), Dubai, United Arab Emirates⁴. A pivotal instrument within the Paris Agreement is the Nationally Determined Contributions (NDCs) mechanism that describes specific emission reduction targets for each participating country. Notably, numerous countries have set ambitious targets to achieve net zero emissions by 2050 through a structured framework provided by the NDCs. Undertaking this task holds great significance, not only in achieving net-zero emission targets, but also in aligning with sustainable development goals (SDGs). To achieve these extensive targets, it is important to make substantial strides and foster cooperation across all sectors, from industry to finance.

Achieving Sustainable Development Goals (SDGs) poses a formidable challenge, particularly in the realms of economic and environmental sustainability compounded by increased emission rates⁵. Climate change, a pernicious issue, has garnered worldwide attention due to its extensive repercussions affecting individuals, corporations, and ecosystems⁶. The importance of green finance has become apparent in light of the challenges faced today, as it is instrumental in driving the advancement of environmentally sustainable initiatives aimed at mitigating the deleterious effects on the environment⁷. The emphasis placed on green finance , particularly climate finance, was a prominent topic of discussion during the 28th session of the United Nations Climate Change Conference (COP28)⁸. Figure 1 depicts the financial commitments at the COP28 on different continents. The genesis of sustainable development can be traced back to the Brundtland Commission’s seminal report titled” Our Common Future,” which emphasized the importance of catering to the needs of the present generation while ensuring the unimpeded satisfaction of future generations’ expectations⁹.

Fig. 1

Source: UNCC-COP28

Financial commitment distribution at COP28 by different continents.

Currently, a definitive and widely accepted definition of the term ‘green finance’ remains elusive. Green finance refers to financial and investment activities geared towards achieving environmental benefits¹⁰. In a broader context, green finance embraces a range of objectives by allocating funds to diverse projects, including minimizing pollution, decreasing greenhouse gas emissions (GHGs), improving energy efficiency and livelihoods, conserving natural resources, and confronting the challenges posed by climate change^11,12. Green financing, in spirit, involves allocating financial resources to projects that promote environmental sustainability and enhance the overall quality of the environment. The importance of green finance in sustainable development is weighted by¹³who regarded it as an essential element that acquired added significance with its inclusion into the “One Planet Summit” in Paris. At this summit, prominent financial institutions and global central banks pledged to promote eco-financed products, with the ultimate goal of lowering emissions by 1.4 billion tons through the pooling of the Green Climate Fund to promote green financing initiatives. Green finance is an essential mechanism for providing financial assistance to small and medium-sized enterprises (SMEs), thereby facilitating their technological advancement and ensuring access to cutting-edge technologies¹⁴. This, in turn, contributes to enhancing the environmental sustainability metrics. Additionally, green finance plays a crucial role in offering financial support to incentivize the adoption of renewable energy sources and clean technologies with minimal adverse environmental impacts¹⁵. Therefore, green finance is an indispensable factor in the global transition towards a net zero economy, significantly contributing to the triumph of sustainable growth objectives.

Environmental decentralization through the allocation of government funding for targeted environmental initiatives allows local governments to develop policies tailored to their unique conditions, thereby promoting economic growth and environmental sustainability. By providing funding to local governments for targeted environmental initiatives, decentralization can facilitate the development of context-specific and innovative solutions to local environmental challenges¹⁶. This tailored approach can enhance resource efficiency, reduce the ecological footprint, and support the achievement of SDGs. Additionally, environmental decentralization can empower local communities by increasing public participation and accountability in environmental management¹⁷. This decentralized decision-making process can lead to more sustainable practices that are better aligned with the specific needs and conditions of each region, thereby promoting a balanced and inclusive approach to environmental protection. Environmental decentralization poses significant challenges, one of which is the potential disparities in financial and administrative capacities among local governments, which can lead to unequal levels of environmental protection and sustainability outcomes¹⁸. Wealthier regions may have resources to implement more comprehensive and effective environmental programs, whereas poorer areas may struggle to meet basic environmental standards. Inadequate oversight and coordination can result in fragmented and inconsistent policies that hinder national and global environmental objectives¹⁹. Moreover, local governments may prioritize short-term economic gains over long-term environmental sustainability, particularly in regions heavily dependent on environmentally harmful industries²⁰. Thus, while environmental decentralization holds promise for promoting sustainable development, it is crucial to carefully design and implement it to address these challenges and ensure equitable and effective environmental governance.

Based on the preceding debate, it is essential to investigate the current role of green finance and environmental decentralization in mitigating environmental degradation and fostering sustainable development in OECD member and non-member countries (hereafter OECD). Evaluating and analyzing the role of these factors in OECD economies is particularly beneficial. The existing literature indicates that a comprehensive investigation of the relationship between green finance, environmental decentralization, and the ecological footprint, along with various output and input side green financing indicators, remains underexplored. This study seeks to delve into this gap by investigating the impacts of green finance and environmental decentralization on the ecological footprint (referred to as a measure of sustainable development) of OECD countries. Furthermore, this study incorporated crucial control variables such as economic abundance, energy transition, financial development, and urbanization to assess their influence on the ecological footprint of OECD countries. This study aims to identify the current state of green development and environmental decentralization in OECD economies and examine their potential impact on achieving carbon neutrality. Both OECD member and non-member economies are considered reference points given their significance as some of the world’s largest industrialized economies. OECD member countries include highly developed nations such as the United States, Canada, Japan, and several European nations, as well as emerging OECD non-member countries such as China, India, and Brazil. OECD countries represent a substantial portion of global economic activity and are home to some of the most advanced economies worldwide. They play a crucial role in shaping global economic policy, and their extensive experience and knowledge of green finance expansion warrants in-depth study to fully comprehend this subject.

This study investigates the impact of the green finance, with a particular focus on financial investment in green technologies and environmental decentralization on sustainable development. This study contributes to the ongoing discourse on green finance and sustainable development by integrating essential elements from recent literature on energy economics. The first is to expand the extant body of scholarly research on green finance and sustainable development by examining a diverse range of perspectives, including economic, social, and environmental factors. Furthermore, this study provides a comprehensive review of the implications of environmental decentralization. To the best of our knowledge, no empirical studies have been conducted to date that examined the interrelationships between green finance, environmental decentralization, and sustainable development. The novelty of this study is characterized by the following key aspects: First, we define green finance as financial investment outputs directed towards climate change mitigation (CCMT) and climate change adaptation (CCAT) technologies. We incorporated both output- and input-side green financing indicators to ensure a comprehensive and robust analysis. Second, we constructed an index of environmental decentralization, incorporating general government expenditure on specific environmental protection activities, using an unsupervised machine-learning methodology. Finally, we employed advanced econometric techniques, such as those proposed by^21,22,23, to rigorously examine the relationships among series across different countries. These advanced econometric methods collectively strengthen the analytical rigor of our study, offering more precise insights into the complex dynamics of the green finance, environmental decentralization, and sustainable development across diverse national contexts. The findings of this study have specific policy implications for OECD countries to achieve net zero emission targets and promote sustainable development. The results of the empirical analysis indicate that green finance and environmental decentralization play critical roles in minimizing ecological footprints. Therefore, this study suggests that green finance and environmental decentralization can serve as strategic mechanisms to promote environmental sustainability by implementing stringent environmental regulations to incentivize green investments in the renewable energy sector, with the ultimate goal of achieving sustainability objectives. Achieving sustainable development and green growth requires active collaboration among various stakeholders, including governmental agencies, non-governmental organizations, private sector entities, and civil society. Effective coordination, cooperation, and information sharing among stakeholders are essential for achieving lasting and impactful outcomes.

The remainder of this paper is organized as follows: Sect. 2 presents the theoretical framework and literature review; Sect. 3 delineates the data, conceptual framework and methodology; Sect. 4 presents the empirical results and discussion; and Sect. 5 concludes the study with policy implications and future research directions.

Theoretical background and literature review

Green finance and sustainable development

Existing literature on sustainable development aims to offer practical solutions to the economic challenges that characterize sustainable development. The corpus of knowledge related to the growth-energy-environment emphasizes crucial constituents, such as critical determinants, as fundamental elements in this field. This comprehensive analysis of the relevant literature aims to construct persuasive arguments, identify knowledge gaps, and provide a novel and substantial contribution to the field. Pioneering work by²⁴ made significant strides in investigating the financial sector’s influence on economic progress in the post-industrial revolution period, during which finance played a crucial role in shaping human development. The architecture of global financial systems is primarily aimed at optimizing the efficient use of global wealth. By reorienting these systems to prioritize the allocation of resources towards green investments, a multitude of advantages can be achieved. These include the stimulation of economic growth, enhancement of living standards, and establishment of a robust framework for environmental sustainability^25,26,27,28. The potential of green finance to promote sustainable development has garnered significant attention; however, the current body of research is limited and inconclusive. Existing studies have used diverse approaches, such as single-country, panel, and cross-regional analyses with varying temporal scopes and econometric techniques. Moreover, there is a lack of standardization in the measurement of both green finance and environmental variables, which hinders the comparability and generalizability of the findings. To address this gap, this section provides a rigorous and critical review of the relevant literature categorized into three pillars of sustainable development: economic, social, and environmental. This systematic categorization facilitates a structured analysis of diverse research efforts to explore the multifaceted relationship between green finance and sustainable development.

Several scholarly investigations have examined the green finance paradigm from an environmental perspective, focusing on numerous intricate aspects. The results of these investigations have shed light on various complexities associated with this paradigm. For instance, ²⁹conducted a pioneering study on the objectives of green finance development and illustrated its beneficial effects on the environment. In parallel findings, ^30,31 asserted that green finance significantly enhances the management of environmental risks and simultaneously promotes a balance between ecological and economic resources. Recent empirical work by³² focused on the significance of green finance in relation to CO₂ emissions within the G7 countries. Their research reveals that the implementation of green financing practices plays a crucial role in fostering a sustainable environment. Similarly³³, emphasized that green finance constitutes an economic initiative explicitly intended to promote environmental amelioration, optimize the efficiency of resource utilization, and proactively tackle climate change. Likewise³⁴, connducted an extensive analysis of the impact of green finance on carbon dioxide emissions in Europe. Their findings demonstrated that each green finance indicator plays a role in mitigating environmental degradation. In an Asian context³⁵, emphasized that the implementation of green finance practices led to a decrease in the ecological footprint and progress towards environmental sustainability. Notably,³⁶ empirically demonstrated that the implementation of green finance policies in India resulted in a significant improvement in environmental quality. More recently³⁷, conducted a study with a specific focus on the top ten leading economies and asserted that the progression of green finance had a significantly positive impact on the ecological environment. Shifting to urban China,³⁸ thoroughly investigated the effects of green finance dynamics on the energy efficiency of Chinese urban areas. The findings revealed a discernible inhibitory impact of green finance on the overall energy consumption in the Chinese context. Simultaneously³⁹, conducted an investigation using annual data sourced from China, employing economic sustainability and carbon neutrality as metrics to evaluate the impact of green finance on sustainable development. The empirical results of this analysis emphasize the crucial role of green finance as a substantial catalyst for promoting sustainable growth in the Chinese socioeconomic landscape. In a distinct geographical context⁴⁰, carried out a study examining the intricate relationship between green finance and environmental quality in the Brazilian context, demonstrating a salient positive effect, affirming that green finance contributes positively to the enhancement of environmental conditions in the country. Globally comparative,⁴¹ conducted a comprehensive cross-country analysis encompassing 46 countries to dissect the influence of green finance on carbon dioxide (CO₂) emissions. The findings of this extensive investigation revealed a substantial reduction in CO₂ emissions attributable to the implementation and adoption of green finance practices on a global scale. Theoretical foundations from⁴² contends that finance, as a transformative force, possesses the capacity to simultaneously promote economic growth and environmental conservation through different channels. One potential channel involves allocating financial resources to initiatives focused on clean energy with the aim of minimizing environmental consequences. In a similar vein⁴³, emphasized the necessity of ample financial support for environmental planning coupled with the implementation of specialized financial instruments tailored to the needs of climate-friendly initiatives as critical mechanisms for advancing environmental, social, and governance (ESG) objectives. Likewise⁴⁴, highlighted that the judicious utilization of green credit holds potential as a catalyst for promoting sustainable development at the national level, provided that it strictly adheres to the existing environmental regulations. Strategic perspectives from⁴⁵ assert that green financing can serve as a potent policy and investment tool strategically aligned with promoting sustainable growth. This entails active participation in cultivating a low-carbon economy. Building on this⁴⁶, proposed that green financing serves as a medium for innovation, aiming to establish a synergistic relationship between economic and ecological sustainability, thus creating a mutually beneficial paradigm. Furthermore⁴⁷, substantiated the claim that proactive efforts in the development of green finance can lead to substantial reductions in coal consumption and significantly bolster energy-related sustainable development initiatives. This synthesis highlights the interconnectedness among financial strategies, environmental compliance, and sustainable development in the context of climate-friendly initiatives. In the Danish context,⁴⁸ further substantiate this interconnectedness in Denmark, illustrating that investment freedom enhances ecological sustainability by directing resources towards renewable energy infrastructure and ICT-driven efficiency. They also highlighted the dual role of ICT in balancing technological advancement with environmental trade-offs.

Sustainable development entails not only environmental sustainability but also economic and social factors as essential components. By mapping the growth trajectory,⁴⁹ explored the intricate role of green finance in shaping the trajectory of green economic performance. The empirical findings of this study unequivocally validate the indispensable function of green finance in fostering and propelling green economic growth. In a regional context,⁵⁰ highlight the role of fiscal policy development in steering the sustainable growth trajectories of Southeast Asian economies. Their research elucidated the complex dynamics between policy frameworks and economic sustainability. In the broader Asian context⁵¹, delved into the economic implications of the green-bond market. This study affirms that, while the green bond market experiences growth, it does not have a direct impact on economic indices. Furthermore,¹² examined the linkage between green finance and economic growth in the ASEAN region, and emphasized the significance of green finance in fostering economic growth and underscoring its importance in building economic resilience. In a comprehensive study of green finance and its implications,⁵² conducted a questionnaire-based survey of the Indonesian Village Fund to explore the intricate relationship between green finance and the SDGs, accentuating the key function of green finance in promoting the harmonious convergence of economic and environmental sustainability targets. Similarly, focusing on academic pursuit,⁵³ delved into the complex interrelationship between green finance and economic growth in South Asia. Through a thorough examination of this scholarly cohort, the researchers arrived at a robust conclusion, asserting that green finance plays a crucial role in significant economic development. This study suggests that the impact of green finance extends beyond environmental considerations, permeating the economic sphere with tangible consequences for regional growth and development. The scholarly work of⁵⁴ concentrated on the Chinese context and comprehensively evaluated the convergence of green finance and renewable energy resources. Their research meticulously illuminated the significant improvements in both economic and environmental sustainability resulting from the integration of green finance. Focusing on corporate responses,⁵⁵ analyzed the impact of green-bond issuance announcements on the CSR activities of Chinese listed firms. This study revealed a reciprocal relationship between these announcements and subsequent social and environmental initiatives undertaken by companies, shedding light on the intricate dynamics at the intersection of financial decisions and corporate responsibility. The implementation of green financing mechanisms, as identified by⁵⁶ may have detrimental effects on environmental and social responsibility, thus emphasizing the intricate interactions and unforeseen consequences of these initiatives.

Environmental decentralization and sustainable development

Amidst the complex tapestry of environmental governance, the concept of decentralization has emerged as a compelling thread, interlacing the fabric of sustainable development. This concept involves the redistribution of power, resources, and decision-making authority from central authorities to local actors, with the aim of fostering more responsive and effective environmental management. Within this intertwined structure, government expenditure holds a pivotal position: delineating priorities and charting pathways for pollution abatement, protecting biodiversity landscapes, and coordinating waste and wastewater management initiatives. Environmental decentralization is a complex phenomenon that arises from the theoretical underpinnings of environmental federalism, and is anchored in the principles of fiscal federalism within the realm of environmental governance. This theoretical development emphasizes the intricate interplay between fiscal policies and environmental management strategies^57,58,59. Significantly,⁶⁰  empirically demonstrate the nuanced effects of environmental protection expenditures (EPE) across EU nations, highlighting that while EPE improves load capacity factors in countries through effective governance, while poor implementation exacerbates environmental degradation, underscoring the critical role of local administrative efficiency in decentralized environmental policies. A critical aspect of understanding the environmental decentralization is its symbiotic relationship with the governance framework characterized by political centralization alongside economic decentralization. This complex governance structure establishes a robust incentive mechanism for stimulating economic competition. The environmental decentralization represents the delicate allocation of environmental governance initiatives across various government entities, thereby influencing the process of environmental policy development and execution at different administrative levels⁶¹. The ongoing discourse concerning the dichotomy between decentralization and the environment encompasses multifaceted dimensions. Initially, the decentralization of environmental jurisdiction was perceived to yield an inhibitory effect that manifested through various interrelated facets. It has been argued that this shift alleviates the financial burden on local governmental entities in terms of environmental supervision and policy enforcement, thereby facilitating the progression of green production and environmental technological innovation^62,63,64. Furthermore, decentralization motivates increased investment in technological R&D within industrial sectors through enhanced financial backing and subsidies^65,66,67. Concurrently, researchers contend that the environmental decentralization augments officials’ accountability in environmental governance and oversight, thus fostering a conducive and sustainable environment for technological breakthroughs aimed at mitigating pollution⁶⁸. Additionally, decentralization is posited to engender a deeper understanding of emission patterns and environmental exigencies among local polluting enterprises at reduced information transmission costs. This informational advantage empowers local governing bodies to customize environmental regulations to suit local dynamics, optimize resource allocation strategies, and stimulate green innovation initiatives. A discerning examination by⁶⁹ posits that judicious implementation of the environmental decentralization can yield positive outcomes for environmental conditions. This perspective emphasizes local governments’ empowerment through pertinent environmental management practices, thereby enhancing the effectiveness of environmental governance. For instance,⁷⁰ highlight the pivotal connection between infrastructure investments and institutional quality in EU countries, demonstrating that targeted infrastructure expenditure and effective governance structures significantly reduce ecological footprints while fostering sustainable development. Notably,⁷¹ underscores regulatory impact analysis as a governance mechanism to enhance sustainable development efficiency by aligning policy frameworks with SDG priorities. Furthermore, the advantages inherent in the environmental decentralization were expounded by⁷²who highlighted the benefits of energy conservation, reduction in consumption levels, and resource optimization through environmental decentralization scaling dimensions. Additionally, noteworthy contributions to the discourse include the observations of⁷³ who posited that the environmental decentralization has the potential to improve the atmospheric haze levels in China. Numerous empirical investigations have underlined the salutary effects of environmental decentralization initiatives such as pollution reduction, energy conservation, and environmental governance^74,75,76,77.

Several researchers have conducted extensive analyses of the consequences of environmental decentralization on pollution control, delving into its multifaceted impact on local governance structures and environmental management practices. Early insights from⁷⁸ emphasize the intricate relationship between the environmental decentralization and its influence on local governments’ spending patterns dedicated to environmental protection, as well as the autonomy of local environmental protection agencies. This discourse emphasizes that a moderate degree of vertical decentralization in environmental governance can stimulate the increased allocation of green technological innovation subsidies by local authorities, thereby fostering the dissemination of environmental protection technologies and bolstering the adoption of cleaner production and pollution abatement technologies^{79,80,81,82,83}. Concurrently, heightened competition among local authorities leads to significant outcomes, enabling the improvement of production factor allocation efficiencies and enhancing the delivery of local ecological and environmental public services, while simultaneously reducing ecological and environmental pollutants^84,85. Moreover, the environmental decentralization is purported to stimulate the upgrading of industrial structures and catalyze the transition towards greener industrial practices, consequently elevating total factor productivity and enhancing environmental quality^86,87,88. Most previous scholarly investigations employed fiscal decentralization as a proxy for environmental decentralization, thereby conflating these two concepts. This widespread approach, prevalent in the academic literature, which employs fiscal decentralization indicators to describe environmental decentralization, has led to inaccuracies in quantifying the extent of environmental decentralization among government entities and introduced errors in the estimation results. Moreover, as environmental protection constitutes a pure-public good, its unique characteristics necessitate that fiscal federalism cannot be a substitute for environmental federalism. To understand the essence and progression of environmental rights, it is essential to elucidate the inherent logic governing environmental protection activities. To address this gap, this study integrated the environmental decentralization, as a share of general government spending on a set of specific environmental protection activities, such as pollution abatement, environmental protection, biodiversity and landscape conservation, waste management, and wastewater management, into the model, which is expected to improve environmental quality and contribute to sustainable development.

Literature gap

Existing literature on the interaction between environmental decentralization and green finance in OECD countries identifies significant gaps that impede a comprehensive understanding of their contribution to ecological sustainability. Although fiscal decentralization has been extensively examined, its conflation with environmental decentralization, particularly within governance frameworks, overshadows the distinct mechanisms by which localized environmental expenditures affect sustainability. Previous research frequently utilizes fiscal indicators as proxies for environmental governance, thereby overlooking the specific ways in which decentralized decision-making on ecological initiatives directly influences resource efficiency and carbon neutrality. Moreover, while green finance is recognized as a catalyst for sustainable development, most studies concentrate on indirect financial instruments such as green bonds, neglecting direct investments, particularly output and input-side green financing indicators in climate-change mitigation and adaptation technologies. This oversight obscures insights into how patent-driven innovations and R&D expenditures translate into measurable reductions in the ecological footprint of OECD economies.

Additionally, empirical investigations of environmental decentralization within OECD economies often overlook disparities in administrative and financial capacities across regions. Affluent regions may leverage decentralized authority to implement sophisticated environmental policies, whereas less-affluent areas may encounter difficulties in meeting basic environmental standards. Despite the significant implications for equitable sustainability outcomes, this dynamic remains insufficiently explored. Methodologically, reliance on traditional econometric methods, without adequately addressing endogeneity or omitted variable biases, undermines the validity of causal inferences. This study seeks to address these limitations by employing advanced techniques to explain these relationships with and without instrumental variable, and by developing detailed indices of environmental decentralization and green finance. Finally, while OECD countries represent a significant share of global economic activity and environmental impact, studies rarely leverage their interconnected, yet diverse governance frameworks to develop cross-border models for decentralized environmental cooperation. This omission limits the potential for scalable context-specific strategies that balance local autonomy with transnational ecological goals. This study seeks to address the existing gaps by elucidating how tailored fiscal autonomy and strategic green investments can align economic growth with ecological resilience. It aims to provide actionable strategies for OECD nations to achieve carbon neutrality, while addressing regional disparities in environmental governance.

Data and materials

To determine the impact of green finance and environmental decentralization on sustainable development, this study utilizes a panel time series dataset that encompasses data for 44 member and non-member countries of the Organization for Economic Co-operation and Development (OECD) over the period spanning from 1995 to 2022. The specific timeframe was determined by the availability of data on green finance, with the commencement of 1995 marking the earliest year in which such data were accessible. Similarly, the selection of the concluding year (2022) is contingent on the availability of data on sustainable development and environmental decentralization. The panel comprising 44 OECD members and formally associated economies, which includes significant non-member states such as China, India, and Brazil, collectively accounts for 63% of global GDP⁸⁹ and has been responsible for 67% of cumulative anthropogenic CO₂ emissions since 1850 ⁹⁰. The financial structures of these economies dominate 82% of global green bond issuance volumes ⁹¹ and 76% of patented climate mitigation technologies⁹²positioning this group as a crucial empirical setting for the analysis of green finance mechanisms. The deliberate inclusion of major industrializing economies captures diverse decarbonization pathways while leveraging OECD’s standardized environmental protection expenditure classifications⁹³ and harmonized public finance metadata⁹⁴. This methodological approach ensures robust cross-national comparability, which is not attainable in non-OECD jurisdictions. The data were used in log form to ensure conformity with normality. (See Table A1 in Appendix A for the comprehensive overview of the variables including their definitions, explanations, and data sources.

Identifying the main regressor for analyzing sustainable development requires a thorough examination of the various factors. Researchers can gain a deeper understanding of the complex relationship between socioeconomic components and environmental sustainability by including variables such as green finance, environmental decentralization, and GDP per capita as indicators of economic abundance, energy transition, financial development, and urbanization. This comprehensive range of variables enables a more nuanced understanding of the factors that shape sustainable development, thus assisting policymakers in developing effective strategies to mitigate the impact of climate change and promote sustainable development.

Dependent variable: sustainable development

This study considered sustainable development as a dependent variable and measured it using ecological footprint (global hectares per capita). This measure has gained widespread acceptance in contemporary academic literature as a holistic, reliable and comprehensive proxy for assessing sustainable development^{39,95,96,97,98,99,100,101,102} and obtained from Global Footprint Network¹⁰³. The ecological footprint (ECFP) serves as a valuable tool in the environmental literature, as it accurately captures the impact of human activities on the ecosystem and quantifies the capacity of natural resources to be replenished within a specific time frame^104,105. Figure 2 presents an overview of the ecological footprint by year across OECD countries.

Fig. 2

Source: Author’s drawing.

Average ecological footprint trend in OECD member and non-member countries.

Key independent variables: green finance and environmental decentralization

In line with the studies conducted by^106,107, we utilized patent counts as a proxy for green finance at the country level, with a focus on technological innovation outputs for climate change mitigation (CCMT) and adaptation (CCAT). To address the potential issues of skewness in patent distribution, we naturally log-transformed the number of CCMT patents (PAT_CCMT) and CCAT patents (PAT_CCAT)¹⁰⁸. Three key considerations underlie the selection of these indicators: First, it is crucial to conduct an in-depth analysis at the national level to gain a thorough understanding of the relationship between sustainable development and green finance. An abundance of data detailing sustainable development on a national scale is available¹⁰³, demonstrating a strong connection with corresponding green finance within the same geopolitical boundaries rather than within the corporate sector. By employing a nationwide approach, we can broaden our analytical perspective to encompass a greater number of economies, ultimately resulting in more robust and generalizable findings, with implications that transcend diverse national contexts. Second, within the context of contemporary financial discourse, green finance involves the strategic allocation of financial resources to environmentally sustainable technologies. These technologies, particularly those associated with CCMT and CCAT, are considered crucial levers in the global endeavor to mitigate the multifaceted impacts of climate change^109,110,111.These are the primary targets of green finance initiatives^112,113. In contrast to green bonds and funds, which indirectly contribute to climate solutions through financial intermediation, financial investments that are directly channelled into green technological innovation and implementation have immediate and tangible effects on climate change governance. The importance of green technology for effective climate responses highlights the need to foster a thriving ecosystem for green financial investments, enabling a shift towards a low-carbon, sustainable economy. Third, we concentrated on the outcomes of investments in green technologies. This is based on two primary considerations: data accessibility and the informative nature of patents^114,115. Functioning as documented milestones within the iterative process of technological advancement, patents constitute a demonstrably successful outcome and serve as a springboard for subsequent innovation cycles¹¹⁶. Consequently, patent-based data are widely used to measure technical advancements and innovation performance at the national level¹¹⁶. A distinct advantage associated with patent data is their capacity to facilitate a targeted focus on technological activities within specific domains¹¹⁷. Moreover, the sheer volume of patents intuitively reflects the degree of a country’s commitment and resource allocation toward green technology investment. The differences observed in the effectiveness of investing in green technologies and converting such investments into patent applications among various nations can be largely attributed to two main factors: the level of investment in green technology, and the existing base of green technological innovation within a particular country. For a more in-depth and robust analysis, we also incorporate output-side (the number of patents related to environmental technologies (PAT_ENV_TECH), environmental management (PAT_EVN_MGT), a sustainable ocean economy (PAT_SUS_OCE)), and input side (the proportion of R&D expenditure allocated to environmental initiatives in relation to GDP (RD_ENV), official development assistance (ODA) allocated to climate change mitigation (ODA_CCMT), and official development assistance designated for climate change adaptation (ODA_CCAT) are presented as percentages of the total ODA disbursements) green financing indicators. These green financing indicators evaluate the compatibility of investment and innovation initiatives with the environmental sustainability objectives. These indicators play a crucial role in comprehending the impact of sustainable development initiatives by offering valuable insights into the allocation of resources and progress towards environmentally friendly practices. Figure 3 depicts the financial investment trends in green technologies for the OECD economies.

Fig. 3

Source: Author’s drawing.

Green finance: financial investment in green technologies in OECD countries.

Another variable of interest that this study examines is environmental decentralization, measured by the proportion of general government spending allocated to specific environmental protection activities such as pollution abatement, environmental conservation, biodiversity, landscape, waste management, and wastewater management. Drawing on the works of^118,119, we constructed an index (an accumulated environmental index that integrates general government spending on specific environmental protection activities) to measure environmental decentralization and graphical representation of index, as shown in Fig. 4. Data on environmental decentralization were retrieved from the International Monetary Fund (IMF, 2022). This index was derived using a two-stage Principal Component Analysis (PCA) parametric indexing approach, which is recognized as an unsupervised machine learning method^120,121.

Fig. 4

Source: Author’s drawing.

Data distribution of environmental decentralization index.

Control variables

This study examined the effects of green finance, which refers to financial investments in green technologies and environmental decentralization, on country-level ecological footprints as measure of sustainable development. To control for potential confounding factors, we chose control variables from two perspectives: those that influence gross financial investment, and those that influence green financial investment and green technological innovation. It is important to note that economic and financial development has played a crucial role in fostering domestic capital formation.

We used GDP per capita as a proxy for economic abundance (ABEC) and the energy transition index (ENTN) as the control variables. The ABEC assesses the level of economic development in a country and is sourced from the World Bank¹²². ENTN refers to the process of replacing conventional energy sources with renewable alternatives to improve the energy efficiency and promote environmental sustainability. The methodology employed in this index draws inspiration from the seminal works of ^123,124, which involve assigning progressively higher weights to superior and more efficient energy sources. The proposed Energy Transition Index (ENTN) has two components: non-renewable (crude oil, coal, natural gas, pumped storage, and nuclear) and renewable energy (hydro, solar, bio(fuels)energy, geothermal, marine energy, and wind) sources and data sourced from The International Renewable Energy Agency¹²⁵. In addition, we incorporated the financial development index (FIDV) and urbanization (URBN) into the analyses. Financial development index data were sourced from the International Monetary Fund¹²⁶. This index is a quantitative measure that evaluates the depth, accessibility, and efficiency of a country’s financial institutions and markets. It assesses the extent and scope of financial institutions, availability of financial services, and the effectiveness of financial intermediation and market mechanisms^127,128. Urbanization is the proportion of urban population and is closely associated with environmental factors. Figure 5 shows the frequency distributions of the control variables.

Fig. 5

Source: Author’s drawing.

Environmental decentralization data distribution.

Referring to the descriptive statistics, Table A2 and Fig. 6 demonstrate considerable volatility among the study variables, with ECFP exhibiting the highest standard deviation of 4.575, with an average value of 5.882. Moreover, the average values (standard deviation) for PAT_CCMT is 5.387(2.392), PAT_CCAT is 4.091(2.160), ENDZ is 0.555 (0.337), ABEC is 9.903 (0.981), ENTN is 0.177 (0.202), FIDV is 0.533 (0.220), URBN is 4.277 (0.224).

Table A3 shows the Pearson’s correlation coefficients for each variable in the baseline model. Aligning with the theoretical analyses, green financing indicators, notably PAT_CCMT and PAT_CCAT, are negatively correlated with ECFP.

The findings of the multicollinearity estimations (VIF and 1/VIF) are presented in Table A4. The scores for VIF (0 < VIF < 5) and 1/VIF indicate that there was no multicollinearity present in the data.

Conceptual framework

This section explains the pathway through which the green finance and environmental decentralization affect sustainable development. Economic performance is a multifaceted construct that is intricately intertwined with various economic activities, and often culminates in deleterious environmental degradation. Within this complex interplay, the finance sector has emerged as a pivotal actor that exerts a significant influence on the enhancement of economic performance. The advent of green financing marks a notable shift, suggesting a plausible pathway towards achieving sustainable development while safeguarding environmental quality and integrity^{129,130,131,132}. Notably, the financial sector’s pivotal role in improving environmental quality is increasingly being recognized, particularly in tandem with the rise of green financing initiatives^39,133,134. It has been argued that SDGs can be pursued effectively through green financing, leveraging their capacity to catalyze green projects and extending financial support towards the adoption of clean and renewable energy sources^135,136137. argue that green finance plays a critical role in fostering sustainable development by relying on financial instruments that prioritize environmental well-being. The primary objective of green finance is not limited to economic growth but rather aims to establish a harmonious balance between economic prosperity and ecological preservation. This emphasis on environmental benefits for human society is further documented by^138,139who highlight green finance objectives of attaining sustainable development by bridging the gap between economic performance and environmental sustainability. Therefore, green finance is a crucial element in achieving sustainable development, as it has the potential to cultivate a green economy, an economic system that prioritizes environmental sustainability alongside economic growth^39,140.

In addition, this study included environmental decentralization to examine its potential to protect the environment, control pollution, and reduce environmental degradation. The environmental decentralization is crucial for granting authority to the local governments for environmental governance. The interplay between the environmental decentralization and the implementation of incentives based on environmental performance bolsters the regulatory power of local governments over polluting enterprises. This creates a competitive environment characterized by “race to the top” and “race to the bottom “effects¹⁴¹. Consequently, such measures propel regional businesses to adopt green technological innovation, thereby driving a transformative shift towards sustainability in their operations¹⁴². The discussion on the environmental decentralization is multifaceted, incorporating varying viewpoints represented by the “race to the top” and “race to the bottom.” These ideas delineate distinct trajectories for environmental consequences that may result from the decentralization process. The “race to the top” approach emphasizes the potential benefits of enhanced local environmental stewardship and the promotion of sustainable development, as local authorities gain greater autonomy and control over financial resources^143,144. However, the “race to the bottom” perspective highlights the risks of reduced environmental conservation efforts as local governments prioritize economic concerns over ecological considerations¹⁴⁵. Both perspectives inherently acknowledge the intricate interplay between contextual factors and the particular modalities through which the environmental decentralization occurs, highlighting the paramount importance of contextual nuances in defining the environmental consequences of decentralization initiatives.

In the context of sustainable development, these two constructs green finance and environmental decentralization operate in a dual mechanism, in which green finance stimulates the allocation of resources towards eco-friendly projects, promoting economic systems that incorporate ecological considerations into their core functions. Simultaneously, the environmental decentralization strengthens local governance structures, enabling the formulation of environmental policies tailored to the local ecological and economic conditions. Empowering local governance is critical for implementing precise and effective environmental regulations, which are crucial for achieving broader objectives of sustainable development. The interdependence between green finance and the environmental decentralization has highlighted that green finance provides the financial tools necessary to support initiatives arising from decentralized environmental governance. This linkage underscores the need for a cohesive policy framework that aligns financial incentives with environmental goals at multiple governance levels to prevent environmental degradation, while promoting economic growth. Such a framework should not only mitigate the risks associated with ‘race to the bottom’ scenarios, but should also capitalize on the competitive advantage of ‘race to the top’ dynamics, fostering a sustainable development trajectory that is both inclusive and effective.

Model specifications

Expanding on the seminal work of¹⁰⁷, this study explored the factors that impact sustainable development, with a particular focus on the role of green finance and environmental decentralization. Therefore, in Eq. (1), we specify that sustainable development (SUDV) is represented as a function of green finance (GRFN), environmental decentralization (ENDZ), and other pertinent control variables denoted by (X).

$$SUDV=f\left[ {GRFN,ENDZ,X} \right]$$

(1)

A cross-sectional model was devised to investigate this connection empirically, as shown in Eq. (2):

$$ECF{P_{it}}={\alpha _o}+{\beta _1}GRF{N_{it}}+{\beta _2}END{Z_{it}}+\phi {X_{it}}+{\varpi _{it}}$$

(2)

where $ECF{P_{it}}$ denotes the ecological footprint; is the proxy for sustainable development; $GRF{N_{it}}$ signifies green finance; $END{Z_{it}}$indicates environmental decentralization; ${X_{it}}$represents a vector of other control variables, economic abundance (ABEC), energy transition (ENTN), financial development index (FIDV), and urbanization (URBN), which could potentially affect the ecological footprint; and ${\varpi _{it}}$is the disturbance term. Considering the extant literature and empirical investigations, we expect negative signs for $GRF{N_{it}}$$\left( {{\beta _1}<0} \right)$ and $END{Z_{it}}$ $\left( {{\beta _2}<0} \right)$.

In this study, we employed the least-squares method to derive the baseline results. Although this technique is widely recognized and utilized, it is susceptible to endogeneity bias, which can arise from omitted variables, omitted selection, simultaneity, and measurement errors^{146,147,148,149}. To address this limitation and enhance the robustness of our findings, we primarily relied on the instrumental variable (IVE) approach. This method is contingent upon the identification of valid instruments, which are variables that influence the endogenous variable, but are orthogonal to the error term¹⁵⁰. To be considered suitable instruments, variables must fulfill three key criteria: (1) a strong correlation with the endogenous variable, (2) adherence to the orthogonality condition, ensuring no direct impact on the dependent variable, and (3) the exclusion restriction, which means that their influence on the outcome variable is solely channelled through the endogenous variable¹⁵¹. A key challenge in conducting empirical research with IVE estimators is identifying valid instruments that satisfy both the conditions of relevance and exogeneity^{151,152,153,154,155,156}. These conditions are crucial to ensure that the instruments influence the endogenous variable without exhibiting any correlation with the error term. However, when ideal instruments are sparse or their exogeneity is questionable²², two-stage least squares (2SLS) technique can serve as an alternative solution. This method is particularly beneficial in cases where the standard IVE estimator faces constraints due to weak or unavailable external instruments.

The 2SLS approach proposed by²² holds significant value in estimating structural parameters within regression models that involve endogenous or inadequately measured variables, particularly when conventional identification criteria are lacking. Building on this,²² approach integrates instruments grounded in heteroscedasticity within the 2SLS framework, offering a robust means of addressing identification challenges. In this context, the residuals obtained from an auxiliary equation are utilized to establish a connection with each mean-centered exogenous variable, thereby creating internal instruments. This relationship is instrumental in creating internal instruments that ensure that the residuals are uncorrelated with the error term of the primary equation and orthogonal to the endogenous regressors. In doing so, the approach effectively addresses endogeneity issues, thus enhancing the robustness and consistency of parameter estimates in the structural model. This innovative approach overcomes the usual constraints imposed by exclusion restrictions. It is worth noting that empirical evidence suggests that estimates derived from Lewbel’s 2SLS framework, even in the absence of external instruments, exhibit remarkable similarities to those obtained when external instruments are employed²². Many studies in the scholarly community have used this specific estimation approach^{157,158,159,160,161,162,163}. Nevertheless, for comparison, particularly for robustness, we employed an alternative model instead of the basic model. This alternative model involves instrumenting green finance. Leveraging the work of¹⁶⁴, we employed environmental policy stringency as an instrument for green finance. We expect that stringent environmental regulations and policies will influence green finance.

To strengthen causal inference,²² is an instrumental method that is crucial for identifying and characterizing the structural inferences in regression models that experience endogeneity; it provides a more accurate estimation using instruments derived from higher moments of the data. However, for a more robust analysis, we employed²¹ approach to address omitted variable bias, ensuring the reliability of our regression results by systematically testing the influence of unobserved confounders. Moreover, recognizing the challenge of finding perfectly exogenous instruments for the green finance, we also incorporate²³ novel methodology. This innovative approach, known as the internal instrumental variables method (IIVE), no-instrument method, or Kinky Least Squares (KLS), circumvents the need for external instruments by exploiting internal variation within the data, thereby enhancing the robustness and validity of our estimations.

Results and discussion

Baseline results

Tables 1 and 2 present the baseline regression results obtained by using the OLS estimator. The independent variable under consideration is ecological footprint, while climate change mitigation technologies, climate change adaptation technologies, and environmental decentralization serve as the dependent variables. Our analysis began with the inclusion of these variables and proceeded to gradually integrate the control variables, revealing that the coefficients associated with both green finance indicators climate change mitigation technologies and climate change adaptation technologies exhibit a negative sign and are statistically significant at the 1% level. The findings in Table 1 indicate that the notably negative coefficient signifies that a 1% increase in the number of patents for climate change mitigation technologies is correlated with a 38.98% decrease in the ecological footprint, suggesting that environmentally friendly financial initiatives contribute substantially to long-term sustainability. The coefficient with a negative sign indicates the effectiveness of green technologies in mitigating environmental degradation. Climate change mitigation patents that capture innovations can result in better resource utilization and lower emissions, ultimately leading to a lower ecological footprint¹⁶⁵. These results also indicate that the adoption of green technologies by both the public and private sectors may lead to a synergistic effect, in which government policies promote sustainable practices, thereby enhancing the influence of green finance on mitigating the ecological footprint¹⁶⁶. Contrary to the expectation that technological advancements may not immediately yield environmental advantages, the results highlight the immediate positive impact of green innovation in mitigating environmental degradation¹¹⁰. Research studies by^25,167,168 also support the findings of the current study.

Table 1 Green finance and sustainable development.

Table 2 presents the findings, which indicate a negative and highly significant coefficient for PAT_CCAT. This suggests that a 1% increase in PAT_CCAT is associated with a 31.75% decrease in the ecological footprint. This suggests that green finance, as represented by innovation in climate change adaptation, contributes to sustainable development by reducing environmental impact. A possible explanation for this negative correlation is that green finance, by fostering the development of climate change adaptation technologies, enhances resource utilization efficiency and diminishes the ecological footprint¹⁶⁹. Another possible explanation for this negative relationship is the market transformation that is facilitated by green finance. Investing in eco-friendly technologies has prompted a move towards more sustainable business practices and industries¹¹³. This shift towards sustainability contributes to the development of sustainable practices by reducing reliance on environmentally harmful practices. From the PAT_CCMT and PAT_CCAT perspectives, these results suggest that green finance plays a significant role in promoting sustainable development in OECD countries. Financial investments in green and eco-friendly technologies yield discernible environmental advantages, thereby facilitating a shift towards a low-carbon economy. More precisely, green finance enhances economic productivity, social prosperity, and environmental quality. These results are consistent with the results of^170,171,172.

Table 2 Green finance and sustainable development.

Environmental decentralization is highlighted as a crucial element in this study, and the results show that it has a substantial impact on the promotion of sustainable development in OECD countries. The coefficient of environmental decentralization indicates that a 1% increase in environmental decentralization could potentially reduce the ecological footprint by 55.29% (Table 1) and 68.57% (Table 2). A negative coefficient of substantial magnitude implies that an increase in government spending allocated to environmental protection activities is associated with a decrease in the ecological footprint. This implies that environmental decentralization has a positive impact on sustainable development by enhancing the effectiveness of environmental protection measures. The primary rationale behind this negative relationship is that decentralization facilitates the implementation of context-specific and regionally focused environmental management strategies¹⁷³. By granting local authorities’ autonomy to devise environmental protection measures attuned to the unique requirements and circumstances of their jurisdictions, it becomes possible to achieve more targeted and impactful environmental results. The findings of this study are similar to those of^174,175.

The findings for the control variables are presented in Tables 1 and 2, respectively. These tables indicate that energy transition and financial development exhibit a negative relationship with ecological footprint in OECD economies. In contrast, economic abundance and urbanization were found to have a significant and positive influence on ecological footprint.

Overall, the findings of this study demonstrate a significantly positive contribution of green finance to sustainable development, which can be attributed to a multifaceted mechanism. When financial institutions prioritize green principles in devising and implementing green finance policies, they significantly improve both their economic performance and environmental quality. This prioritization enables the productive sector to access environmentally friendly technologies that optimize traditional production processes and diminish ecological damage. By financing these technologies, green finance not only enhances economic output but also reduces the ecological footprint of industrial activities. Financial institutions play a vital role in promoting and integrating green products and services, thereby encouraging sustainable projects. These projects involve efficient utilization of energy, provision of clean energy, air pollution management, and climate change mitigation. When financial institutions actively engage in these areas, they generate substantial economic opportunities, support sustainable livelihoods, and enhance the environmental quality. By directing investments toward green technologies and practices, financial institutions contribute to a more sustainable economic model, in which growth is decoupled from environmental degradation. This dual benefit highlights the strategic significance of green finance in driving sustainable development, fostering economic resilience and safeguarding ecosystems. Green finance is a panacea for addressing climate change by fostering innovation in renewable energy technologies and reducing the reliance on carbon-intensive energy alternatives. From a theoretical perspective, the Environmental Kuznets Curve (EKC) hypothesis postulates that as economies expand, environmental degradation initially escalates, reaching an apex, but subsequently starts to decrease as higher income levels engender greater environmental consciousness and investment in sustainable practices¹⁷⁶. This theory is pertinent for explaining the negative coefficient of green finance with an ecological footprint, which might embody the latter part of the EKC curve. Here, increased investment in green technologies facilitated by green finance leads to a reduction in the environmental impact. This observation corroborates the idea that economic growth when coupled with targeted green investment can foster sustainable development. These findings are consistent with those^54,177,178. These authors emphasized that green finance is crucial for promoting environmentally friendly initiatives, innovation, and sustainable development, aligning with the SDGs.

The study outcomes indicate a significant relationship between high levels of environmental decentralization and a reduced ecological footprint among OECD countries. The robust negative coefficient for environmental decentralization highlights a notable decrease in ecological footprint, suggesting that delegating environmental responsibility to local governments can lead to more effective environmental protection measures. This trend implies that the sampled OECD countries prioritize green growth, thereby reducing the anthropogenic emissions associated with fossil fuel combustion. However, our findings also show that environmental decentralization does not necessarily facilitate environmental protection, which aligns with the race-to-bottom hypothesis. This perspective postulates that the environmental decentralization may be an ineffective strategy for mitigating environmental damage, because local governments may weaken environmental regulations to attract international investors, thereby exacerbating anthropogenic emissions. In contrast to the concept of race to the bottom, “race to the bottom,” in which jurisdictions compete by lowering environmental standards to attract business, the “race to the top” refers to a competitive dynamic in which regions or countries aim to improve their environmental standards and performance¹⁷⁹. This phenomenon is particularly relevant in OECD countries where environmental awareness and regulatory frameworks are generally strong. In many OECD countries, the pursuit of environmental performance has led to a “race to the top, where local governments compete to implement more effective and innovative environmental policies¹⁸⁰. This competition is driven not only by regulatory requirements but also by public demand for higher environmental quality.

This dichotomy underlines the complexity of decentralization and environmental protection. The findings indicate that, while decentralization enhances resource allocation and provides insight into local contributions to air pollution, it does not inherently lead to stricter environmental regulations. Instead, local governments may be incentivized to relax environmental standards in pursuit of economic growth and foreign investment. This dual effect highlights the need for a balanced strategy that empowers local governments to implement effective environmental policies, while maintaining regulatory stringency. This study emphasizes the need for a nuanced understanding of the relationship between decentralization and environmental protection, stressing the importance of robust regulation. These outcomes align with the conclusions reached by^144,181,182.

With respect to the control variables, this study found that urbanization and economic abundance impede sustainable growth. The results of this study may be ascribed to an increase in urbanization, which subsequently leads to heightened energy demand and depletion of natural resources, consequently hindering sustainable development. Regarding economic abundance, this study suggests that a higher level of economic abundance may lead to increased consumption and environmental degradation, posing challenges to sustainable development despite its economic benefits. Additionally, financial development and energy transitions have complex interactions with sustainable development. As the financial system matures, they may support more sustainable economic activities, such as providing the necessary capital for green investments, thereby reducing their ecological footprints. In addition, energy transitions can decrease reliance on fossil fuels and promote cleaner energy sources. Similarly, the results of the control variables such as the urbanization and economic abundance show a positive relationship with ecological footprints, consistent with the previous research studies^183,184,185. In contrast, the results for energy transition and financial development show a negative effect on the ecological footprints, which are also consistent with^186,187,188.

Oster coefficient stability test

The main hypothesis, which posits that green finance, as indicated by the number of patents related to climate change mitigation and adaptation, reduces ecological footprint and promotes sustainable development, is supported by the OLS estimation in our baseline model. Nonetheless, it is essential to acknowledge the possibility of an omitted variable bias resulting from the exclusion of relevant confounding variables. This is especially relevant given the possibility that crucial confounders were not included in the initial model specification. To address this issue, the²¹ coefficient stability strategy was implemented, which helped diminish the influence of selection bias by considering the confounding factors observed in the baseline regression model. The resulting discernible variation in the coefficients and R-squared values between the model specifications with and without observable controls provides evidence of the magnitude of the selection bias attributable to unobserved variables. Previous studies frequently performed sensitivity analyses by incorporating control variables. Traditionally, academics have argued that a stable treatment effect coefficient upon the inclusion of new observable variables in the model indicates a small discrepancy due to omitted variables. However, these analyses typically disregard the insights provided by the coefficient of determination, R². In response,²¹ hypothesized that the relationship between the treatment effect and unobservable variables can be inferred from the correlation between the treatment effect and observable variables. Thus,²¹ recommends the following procedures to enhance the robustness of the analysis against omitted variable bias.

Table 3 Oster coefficient stability test.

In the initial stage, we adopt a bias-corrected statistic ${\beta ^ \bullet }$ under the assumption of proportionality between unobserved and observed confounding variables and acknowledge that the maximum value of R-squared is equal to one. This measure was introduced to account for the potential bias in estimating the relationship between green finance and sustainable development. As²¹ suggests, if the coefficient$\beta$ of green finance does not equal zero, then the foundational estimate cannot be attributed solely to unobserved variables. The empirical outcomes presented in Column (2) of Table 3 indicate that none of the confidence intervals contains zero, suggesting a potential causal relationship between green finance and sustainable development. Additionally, a comparison of columns (1) and (2) reveals that the coefficients of the influence of the green finance indicators PAT_CCMT and PAT_CCAT on ecological footprint change from − 0.38981 to -0.30085 and − 0.31751 to -0.26128, respectively, when omitted variable bias is considered. This suggests that the impact of green finance on ecological footprint is more pronounced when the omitted variable bias is adjusted for. Second,²¹ recommended the application of the δ statistic, which is determined under the stringent assumption that the optimal attainable R-squared value is 0.945. In addition to²¹ assertion, δ values exceeding the conventional threshold of one provide evidence of robustness against unobserved confounding variables. The value of δ in Column 4 of Table 3 is greater than the traditionally established threshold, which suggests that the impact of green finance indicators (PAT_CCMT and PAT_CCAT) on the ecological footprint is unlikely to be significantly influenced by unobserved variables. Collectively, these results support this conclusion.

Lewbel endogeneity test

As shown in Tables 4 and 5, and 6, Oster’s stability test validates the absence of confounding factors that could skew the impact of green finance and environmental decentralization on sustainable development. Nevertheless, the issue of endogeneity (omitted variables, reverse causality, and measurement errors) lingers. To address this issue, one of the most commonly employed estimation techniques is the instrumental variable (IVE) method. However, identifying an entirely exogenous instrument is challenging. To navigate this hurdle, we implement²² instrumental variables method. Table 4 presents the results of this investigation, including Columns (1) and (3), and illustrates the outcomes when the Lewbel model was estimated using an internal instrument. In contrast, Columns (2) and (4) expand upon this analysis by incorporating both internal and external instruments into the Lewbel model.

Table 4 Results of Lewbel 2SLS (endogeneity).

It is crucial to emphasize the adequacy of the instruments used in our analysis. To evaluate the suitability of these internal and external instruments, we rely on the Kleibergen and Paap Wald F statistic, which tests for weak instruments^189,190. In accordance with the ‘rule of thumb’ outlined by¹⁹¹the Wald F statistic should be a minimum of 10 to avoid concerns of weak identification¹⁹². As shown in Tables 4 and 5, and 6, all statistics exceed this threshold, indicating that weak identification is not an issue. Additionally, the Hansen p-values suggest that our IVE model is appropriately specified as there is no evidence to reject the hypothesis of exogenous instruments. Specifically, the p-values fail to reject the null hypothesis that the instrument is both exogenic and orthogonal to the error term. This is a positive indication that our IVE model was correctly specified.

Examining the information provided in Table 4, the coefficients of green finance in Column (1) reveal negative and statistically significant results at the 1% level. This outcome aligns with previous baseline model findings, suggesting that increased green financing promotes sustainable development. In particular, a 10% increase in green finance was associated with a 7.984% decrease in ecological footprint. In both Columns 2 and 3 show that the coefficient of green finance remains negative and statistically significant at the 1% level when both internal and external instruments are considered.

Table 5 Results of Lewbel 2SLS (Endogeneity): output-side green finance indicators.

Table 5 presents the results for the output-side green technology financing indicators by combining internal and external instruments. The results reveal significantly negative coefficients for PAT_ENV_TECH (-0.7451 and − 0.8530) and PAT_EVN_MGT (-0.8020 and − 0.8433) across various specifications, indicating that an increase in patents related to environmental technologies and management is linked to a reduction in the ecological footprint. These results suggest that technological advancements in the environmental sector are effective in mitigating environmental degradation¹⁹³. A significant reduction in the ecological footprint implies that these patents will lead to the development of cleaner technologies, more efficient processes, and improved environmental management practices. The patent indicator for sustainable ocean management (PAT_SUS_OCE) also showed significantly negative coefficients (-0.8354 and − 0.8271), indicating its effectiveness in reducing the ecological footprint. The significant negative coefficients emphasize the importance of targeted innovation in specific environmental sectors. Sustainable ocean management patent output is likely to contribute to better marine conservation practices, pollution reduction, and the sustainable exploitation of ocean resources¹⁹⁴. In short, the investigation suggests that the promotion of green finance by means of innovation, support of decentralized environmental policies, and management of urbanization and economic growth in a sustainable manner are of paramount importance for lowering the ecological footprint and sustaining long-lasting sustainable development. The present findings align with the outcomes of previous studies^195,196 .

Table 6 Results of Lewbel 2SLS (Endogeneity): input-side green finance indicators.

The results presented in Table 6 pertain to input-side green financing indicators, which are influenced by various combinations of internal and external instrumental variables. The coefficients for RD_ENV indicate a negative association between R&D expenditure allocated to environmental initiatives and ecological footprint. This suggests that when more funds are directed towards environmental R&D, it leads to innovations and improvements in environmental technologies and practices, which helps reduce the ecological footprint¹⁹⁷. The negative significant coefficients (-0.0198 and − 0.0240) for ODA_CCMT imply that increased official development assistance directed towards climate change mitigation significantly reduces the ecological footprint. This suggests that financial aid specifically targeted at reducing greenhouse gas emissions, promoting renewable energy, and implementing mitigation projects is highly effective in lowering the environmental impacts. A high significance level indicates a strong and reliable relationship between climate change mitigation aid and a reduced ecological footprint. The highly significant negative coefficients (-0.2649 and − 0.2611) for ODA_CCAT indicated a substantial reduction in the ecological footprint owing to increased official development assistance for climate change adaptation¹⁹⁸. This type of assistance includes funding projects that help communities adapt to the adverse effects of climate change, such as building resilient infrastructure, improving water management, and developing early warning systems for natural disasters. This strong negative association underscores the importance of adaptation strategies for reducing environmental degradation and promoting sustainable development. These results suggest a robust and consistent impact of adaptation in lowering the ecological footprint.

These findings underline the essential role of judicious green financial investment in mitigating and adapting to climate change. Enhanced spending on environmental R&D has facilitated technological advancements that have decreased environmental effects. Correspondingly, targeted financial aid through ODA for both mitigation and adaptation is vital for effectively addressing climate change challenges. The strong negative correlations between these variables and the ecological footprint indicate that strategic financial investments and support can significantly contribute to achieving SDG’s by lowering environmental impacts and bolstering resilience to climate change. Overall, our baseline findings are robust in terms of alternative output and input-side green financing indicators. These findings are consistent with the results of other studies^137,199.

Sensitivity analysis

We carried out a comprehensive robustness analyses to confirm our earlier results. Initially, we reassessed the baseline model for two separate operations. Finally, we examine the stability of our results by employing an alternative estimation technique for alternative indicators of green financing.

Sensitivity to outliers

In this section, we examine the sensitivity of the results to the outliers. To accomplish this, we conducted two analytical procedures, the results of which are presented in Table 7. Initially, we calculate the standardized residuals in columns (1) and (3) and restrict the sample to nations whose values are below the 1.96 limit²⁰⁰. Subsequently, in columns (2) and (4), we apply robust regression techniques, specifically determining the weights and re-estimating the benchmark model using these weights, in accordance with the methodology proposed by²⁰¹. The estimates in Table 7 validate our primary results and confirm that green finance promotes sustainable development. Consequently, outliers did not significantly affect the relationship between green finance and ecological footprint.

Table 7 Sensitivity to outliers: baseline model.

Robustness check to alternative indicators for green finance

In this subsection, we assess the influence of green finance utilizing alternative indicators on the ecological footprint. Table 8 summarizes the assessment outcomes. As with prior findings, we observe that each of the coefficients connected to these varied green finance indicators is negative and statistically significant with the ecological footprint at the traditional thresholds. These results confirmed that green finance has a positive effect on sustainable development.

Table 8 Robustness to alternative indicators of green finance: output and input-side green finance indicators.

Kiviet: alternative instrument—free analysis

Given the inherent difficulties in identifying a completely exogenous instrument for green finance, our study embraces²³ alternative estimation technique. This pioneering approach, known as the no-instrument method, internal instrumental variables (IIVE) method, or, more concisely, the Kinky Least Squares (KLS) method, presents a robust solution to the restrictions of conventional instrumental variable techniques. Unlike the traditional Two-Stage Least Squares (2SLS) method, which relies heavily on the availability and validity of instruments, the KLS method circumvents the requirement for external instruments. Instead, it analytically corrects Ordinary Least Squares (OLS) estimates for endogeneity, specifically addressing the correlation between error terms and endogenous variables, such as green finance.

The KLS method provides several benefits, particularly in situations where the instruments may be unreliable or weak²⁰². The KLS method enhances the reliability of parameter estimates by correcting for bias within the estimated range of endogeneity. Additionally,²⁰³ showed that the confidence intervals generated by the KLS method tend to be narrower than those produced by the 2SLS method, resulting in increased precision, which is crucial in empirical research where the validity of the instruments is often questionable and the robustness of the estimations is essential. Consequently, the KLS method not only mitigates the risks associated with weak instruments but also improves the overall efficiency and credibility of econometric analysis. The findings of this study are presented in Tables 9 and 10. Table 9 demonstrates the influence of green finance, as represented by PAT_CCMT and PAT_CCAT, on ecological footprint. Table 10 demonstrates the impact of green finance as an alternative output-input-side green financing indicators on the ecological footprint. Across Tables 9 and 10, the coefficients associated with green finance consistently exhibit negative and statistically significant values. This observation validates our previous findings, suggesting that green finance plays a vital role in mitigating ecological footprint and fostering sustainable development. Therefore, our findings demonstrate the robustness of the alternative estimation techniques. Figures 6 and 7 demonstrate the absence of bias resulting from omitted variables in our baseline model and in model of alternative green financing indicators, respectively.

Table 9 Kinky least square (KLS).

Fig. 6

KLS coefficient estimates and confidence intervals for CCMT and CCAT.

Table 10 Kinky least square (KLS). Output and input-side green finance indicators.

Fig. 7

KLS coefficient estimates and confidence intervals for output-input side green finance indicators.

Conclusion and policy recommendations

In recent times, considerable progress has been made in climate research, revealing the crucial elements pertinent to this study. First, one key insight is that anthropogenic activities are primarily responsible for environmental degradation and climate change. This recognition highlights the significance of green finance as a catalyst for technological innovation to mitigate these effects. Financial investments in climate change mitigation technologies and climate change adaptation technologies are crucial, as green finance directly addresses the root causes of climate change by fostering the development and deployment of sustainable technologies. The second key point to consider is the substantial advancements achieved in evaluating the economic and human consequences of climate change, underscoring the critical need for implementing robust sustainable development strategies. This urgency is reflected in the growing emphasis on green finance to fund projects that not only mitigate climate change but also enhance adaptation efforts, thereby reducing communities’ vulnerability to environmental degradation. Finally, it is now widely acknowledged that individuals most significantly affected by climate change are frequently those residing in low-income countries, despite the fact that these nations contribute comparatively little to pollution. This realization raises critical environmental justice issues, emphasizing the need for green finance and environmental decentralization to ensure equitable energy policies that do not disproportionately burden vulnerable populations. Environmental decentralization plays a vital role in empowering local governments, particularly in developing regions, to create and implement environmental policies tailored to their unique challenges and needs. This approach ensures a more equitable allocation of resources, supporting those most affected by climate change, while promoting sustainable development.

The purpose of this study is to examine the influence of green finance and environmental decentralization on sustainable development in 44 countries, including OECD member and non-member countries, using panel data from 1995 to 2022. This study focuses on the impact of these factors on the ecological footprint, which is a measure of sustainable development. To quantify green finance, this study employs technological innovation outputs for climate change mitigation and adaptation as well as two subdimensions of green finance indicators. To maintain empirical accuracy, the Ordinary Least Squares (OLS) estimation technique is used to derive baseline results, relying on Oster test for coefficient stability; Lewbel 2SLS used it as an instrumental variable method to address potential endogeneity issues, and Kiviet-free analysis applied it to cases in which the instruments are weak.

This study examined the complex interplay between green finance, environmental decentralization, and sustainable development, with a particular focus on OECD countries. These results emphasize the critical role of green finance in fostering sustainable development. Financial investments in green technologies, as demonstrated by patents related to climate-change mitigation and adaptation, significantly reduce the ecological footprint. Regarding alternative green financing indicators, a negative correlation is established between the output-input-side green finance indicators and the ecological footprint. This relationship underscores the importance of allocating financial resources to innovative, environment-friendly technologies that contribute to reducing environmental degradation and supporting the transition to a low-carbon economy. Environmental decentralization has emerged as a crucial factor for enhancing sustainable development. This study revealed that increasing the proportion of government spending dedicated to environmental protection activities led to a substantial decrease in the ecological footprint. This suggests that decentralized environmental governance enables more effective and tailored environmental policies at the local level, promoting sustainable practices and resource efficiency.

One of the primary policy implications is the necessity of adequate funding and support mechanisms to enable local authorities to implement green financing projects effectively. To enhance multi-level governance frameworks, local governments should adopt dynamic fiscal policies that prioritize green infrastructure projects, such as smart grids and circular waste systems, while central authorities provide standardized environmental benchmarks to prevent regulatory fragmentation. Without sufficient financial resources, regional and local governments can struggle to develop and deploy green technologies and practices. Therefore, it is imperative to ensure that these entities have access to financial resources to support research and development (R&D), promote sustainable practices, and invest in renewable energy. Municipalities should further leverage green bonds to fund IoT-enabled renewable energy systems and climate-resilient infrastructure, ensuring transparency through the environmental decentralization index introduced in this study²⁰⁴. To implement these strategies effectively, it is recommended that governments operationalize quota-based carbon pricing schemes and expand the designation of marine protected areas, particularly in coastal zones susceptible to rising sea levels and ecological stress²⁰⁵. National environmental tax reforms should be enacted by integrating carbon levies with green subsidies to incentivize industry-wide emission reductions. Additionally, it is crucial to mandate environmental, social, and governance (ESG) disclosure in both the public and private sectors to enhance transparency and accountability in sustainable finance²⁰⁶.

Another critical policy implication is the importance of the coordination and cooperation between regions and countries. OECD countries should foster cross-border knowledge platforms to share best practices in green finance allocation such as CCMT and CCAT patent strategies and decentralized governance models, particularly for cities are undergoing rapid urbanization. Policymakers should consider the unique ecological characteristics and priorities of the OECD countries. By fostering collaboration between regional and local authorities, successful initiatives and experiences can be shared, facilitating the rapid adoption of green technologies across OECD countries. In this context, regional climate innovation hubs coordinated under the OECD framework could serve as platforms for disseminating scalable climate solutions, technological blueprints, and advanced data protocols²⁰⁷. Additionally, transnational alliances among smart cities can consolidate green-bond resources into joint investment portfolios aimed at enhancing urban resilience.

Developing a robust monitoring and evaluation framework is crucial to assess the effectiveness of green financing policies. This framework should measure indicators, such as carbon emission reductions, energy consumption levels, and biodiversity conservation. Regular monitoring and review enable policymakers to make informed decisions and enhance the efficiency of green innovation initiatives. To enhance these systems, it is recommended that countries implement digital monitoring platforms equipped with AI-driven dashboards to facilitate the real-time tracking of green finance deployment, climate resilience outcomes, and reductions in ecological footprints²⁰⁸. Policymakers should integrate equity considerations into decentralization reforms by aligning environmental decentralization with targeted capacity-building grants for under-resourced municipalities. Utilize Environmental Decentralization Index as a fiscal equalization mechanism to prioritize capacity-building grants for under-resourced municipalities, thereby mitigating subnational disparities in environmental standards and preventing a ‘race to the bottom”²⁰⁹. Building capacity and knowledge-sharing are vital components of effective policy implementation. Regional and local governments often face challenges in terms of understanding and adopting innovative green practices. Investing in training, education, and capacity-building programs is essential to familiarizing policymakers with sustainable practices. Promoting sustainable culture across member countries can significantly enhance the adoption and implementation of green financing policies.

Green financing is a critical component of environmental sustainability. It channels financial resources towards initiatives that reduce pollution, minimize greenhouse gas emissions, increase energy efficiency, and preserve natural resources. Additionally, green finance offers support to small and medium-sized enterprises (SMEs), enabling them to utilize advanced technologies that enhance their environmental sustainability performance. Furthermore, green finance encourages the adoption of renewable energy sources and clean technologies, which are essential for shifting towards a net-zero economy.

The decentralization of environmental governance grants local governments the authority to devise policies suited to their specific circumstances, thereby fostering economic growth and environmental sustainability. By providing funding for targeted environmental initiatives, decentralization enables the development of context-specific and innovative solutions to local environmental challenges. This approach enhances resource efficiency, minimizes the ecological footprint, and supports the attainment of SDG’s. However, it is imperative to address potential disparities in financial and administrative capacities among local governments to ensure equitable levels of environmental protection and sustainability outcomes.

The policy implications that have been discussed are not limited to OECD member and non-member countries but have significant global relevance. The OECD’s approach to promoting sustainable development and tackling ecological challenges can serve as a model for other countries. Through the implementation of effective policies at the regional level, the OECD can set an example and contribute to global efforts towards achieving Sustainable Development Goals (SDGs). Recent discussions at COP28 have yielded significant insights that can be applied to various global contexts. Lessons derived from the strategies employed by OECD countries in their transition to a low-carbon economy, efforts to conserve biodiversity, and responses to climate change can substantially bolster international sustainability initiatives. The experiences of these nations offer a valuable repository of knowledge that can enhance global efforts in these domains²¹⁰ .

In summary, green finance and environmental decentralization are critical for attaining sustainable development. It is imperative to provide adequate funding, ensure coordination, monitor progress, build capacity, and facilitate knowledge sharing to maximize the positive outcomes associated with these factors. If policymakers can effectively address these implications, they can leverage the advantages of green finance and environmental decentralization to achieve sustainable growth and minimize the environmental consequences of human activity. The OECD’s approach to green finance and environmental decentralization serves as a valuable example of global initiatives aimed at achieving sustainability, emphasizing the necessity of comprehensive and unified strategies to promote a greener future. It is imperative to ensure that these strategies align with the long-term climate and sustainability goals set for 2050, which include achieving carbon neutrality, restoring ecosystems, and fostering inclusive green growth.

Limitations and future study directions

This study acknowledges the limitations of this study and identifies potential avenues for future research. Further research should extend beyond green finance and environmental decentralization to examine the interplay between additional factors that contribute to ecological sustainability. These factors include environmental regulations, public awareness campaigns, social and political dynamics, and international collaborations. To formulate effective policies, it is essential to evaluate the long-term effects of green finance and environmental decentralization on sustainable development. Future research should investigate the mechanisms by which these policies impact sustainable development in various regional contexts. Further studies could also explore how blockchain-enabled green finance platforms and AI-driven environmental monitoring systems can enhance the accountability of decentralized governance in smart cities, particularly in the rapidly urbanizing areas of the Global South. Future research could also investigate the efficacy of specific policy instruments, including emission trading schemes, carbon taxation models, and green procurement regulations. By clearly defining these policy mechanisms, researchers and policymakers can effectively evaluate and replicate successful outcomes across various contexts.