Environmental regulations and green innovation: The role of trade and technology transfer

This paper presents a theoretical model that predicts an inverted U-shaped relationship between green innovation and environmental regulation under free trade. Our theory also determines the conditions under which international technology transfers increase green innovation. The predictions are tested empirically by estimating a fixed effects Poisson model with data for a panel of OECD and BRICS countries over the period 1990 to 2019. The predicted inverted U-shaped relationship is confirmed by the empirical results when using the Environmental Policy Stringency Index (EPS) and its components as proxies for environmental regulations. The empirical results also show that technology transfers increase green innovation at any given level of environmental regulation. Moreover, we allow for heterogeneous effects for OECD and non-OECD countries and find that while implementing stricter environmental regulations in non-OECD countries increases green innovation, the reverse is likely to hold for most OECD countries. When distinguishing by type of regulation, our findings show that market-based regulations are more effective in non-OECD countries for fostering green innovation, while non-market-based regulations are more effective in OECD countries. The main policy implication is that the type of environmental policies through which countries aim at achieving zero-net emissions have different implications depending on their stage of development in the presence of international trade. • Green innovation is an inverted U-shaped function of environmental regulation. • Trade weakens relationship between green innovation and environmental regulation. • International technology transfers increase green innovation. • Stricter environmental regulations in non-OECD countries increases green innovation. • Stricter environmental regulations in OECD countries decreases green innovation.