Greenhouse gas emissions and stock market volatility: an empirical analysis of OECD countries

• DOI: https://doi.org/10.1108/IJCCSM-10-2021-0124
• Published date: 02 January 2023
• Date: 02 January 2023
• Pages: 58-80
• Subject Matter: Public policy & environmental management,Environmental issues,Climate change
• Author: Jung Hee Noh,Heejin Park

Greenhouse gas emissions and

stock market volatility: an

empirical analysis of

OECD countries

Jung Hee Noh

Department of Investment Policy, National Pension Research Institute,

Jeonju, Republic of Korea, and

Heejin Park

School of Business, Pusan National University, Pusan, Republic of Korea

Abstract

Purpose –This study aims to exploreempirical evidence of the impact of greenhouse gas (GHG) emissions

on stock marketvolatility.

Design/methodology/approach –Using panel data of 35 Organizationfor Economic Co-operation and

Development countries from 1992 to 2018, we conduct both fixed effects panel model and Prais-Winsten

model withpanel-corrected standard errors.

Findings –The authors document that there is a significant positiverelationship between GHG emissions

and stockmarket volatility. The results remain robustafter controlling for potential endogeneityproblems.

Originality/value –This study contributes to the literature in that it provides additional empirical

evidencefor the financial risk posed by climate change.

Keywords OECD, Greenhouse gas, Climate change, Stock market volatility

Paper type Research paper

1. Introduction

Over a significant period of time, climate change caused by an increased level of carbon

dioxide and greenhouse gases (GHGs) from anthropogenic behaviors has emerged as an

important national and social challenge [1]. In this regard, a vast of studies have

documented the negative impact of climate change on ecosystems, such as reduced water

availability, reduced agricultural yields and increased extreme weather events that

ultimately affect human health and well-being (Montgomery, 2017). In addition, climate

change poses a large aggregate risk to firms and financial markets (Litterman et al., 2020).

Firms have been undergoing a radical shift through increased cost for controlling GHG

emissions because of stricter regulations, increased demand for lower-carbon products and

increased investor preferences for eco-friendly or sustainable items. Furthermore, more

© Jung Hee Noh and Heejin Park. Published by Emerald Publishing Limited. This article is published

under the Creative Commons Attribution (CC BY 4.0) licence. Anyone may reproduce, distribute,

translate and create derivative works of this article (for both commercial and non-commercial

purposes), subject to full attribution to the original publication and authors. The full terms of this

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JEL classification –F64, G10, Q54

IJCCSM

15,1

58

Received27 October 2021

Revised23 May 2022

18July 2022

3 October2022

Accepted31 October 2022

InternationalJournal of Climate

ChangeStrategies and

Management

Vol.15 No. 1, 2023

pp. 58-80

EmeraldPublishing Limited

1756-8692

DOI 10.1108/IJCCSM-10-2021-0124

The current issue and full text archive of this journal is available on Emerald Insight at:

https://www.emerald.com/insight/1756-8692.htm

volatile and extreme weather events because of climate change can lead to large financial

service providers, suchas home mortgage, pensions and life insurance, being unable to shift

from their current portfolios, potentially causing financial risks that disturb the stability of

the financial market[2].

The risks of climate change that impact financial market can be divided into two

categories: physicalrisk and transition risks. The physical risks are environment events like

droughts, floods, storm or rising sea levels. These natural disasters can be a major channel

for volatility in thestock market, as they cause uncertainty in the businessenvironment. For

example, in an extreme weatherevent caused by a severe flood, an increase in the number of

inundated vehicles can cause insurance companies to incur enormous costs. Prior studies

consistently indicate that extreme cold and heat waves have a serious impact on economic

activity (Lundgren et al.,2013;Zander et al., 2015;Budhathoki and Zander, 2019). Transition

risk arise from changes in policy such as carbon pricing and new technologies such as the

growth of renewable energy. For example, there is persistent controversy regarding the

appropriate price forcarbon emissions. Moreover, uncertainty regardingthe extent to which

carbon emissions can be limited to decelerate global warning magnifies the uncertainty of

climate policies (Barnett et al.,2020). As a result, financial regulators have expressed

concerns that investors may be unable to precisely predict the impact of climate change,

thereby posing a threat to the overall financial stability (Cóur

e, 2018;Carney, 2019). In

particular, the risks arisingfrom the uncertainty surrounding climate change regulation and

compliance with new regulations can affect businessperformance (Lee et al.,2015;Nguyen,

2018), consequently reducingthe accuracy of analyst forecasts (Pankratz, 2019). The various

uncertainties mentioned so far may eventuallyact in conjunction and increase the volatility

of financial markets.

Although we recognize that climate risk would have an impact on firms and financial

market, it is difficult to properly understand the impact related to it. This is not only because

accurately measuring climate risk is extremely difficult but also because it takes a considerable

amount of time for us to feel the impact. While a vast of studies have focus on the association

between climate change and financial markets in terms of stock returns, the effects on stock

market volatility remains understudied. We contribute to this literature gap by exploring

whether equity market volatility rises as exposure to climate change events increases.

Furthermore, whereas prior studies linking the effects of climate change on stock prices are

limited to specific countries or industries (Oestreich and Tsiakas, 2015;Tian et al., 2016), we

perform a cross-country analysis of the Organization for Economic Co-operation and

Development (OECD) countries. Extreme climatic hazards, such as flooding, forest fires after

severe drought and violent storms, can create climate refugees and destroy economic resources

in specific regions or countries; therefore, studies evaluating the impacts of climate change

across countries or regions are of great importance. Furthermore, as each country possesses

distinct financial systems and policy interventions for climate change, the current comparative

study linking climate change and stock market volatility provides significant insight.

To the best of our knowledge, this is the first paper to incorporate the equity market

volatility to climate change risk. Using paneldata of 35 OECD countries from 1992 to 2018,

we document a significant positive relationship between GHG emissions and stock market

volatility in OECD markets. We estimate both a fixed effects panel model and Prais–

Winsten model with panel-corrected standard errors. The results are robust even after

controlling for other factors affectingequity market volatility and endogeneity. Our finding

contributes to the academic and policy discussionof the potential financial consequences of

climate change-related risks that could constitute a new form of systematic risk with

important implication. In this regard, Karydas and Xepapadeas (2019) argue that climate

OECD

countries

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