Disentangling the asymmetric effect of financialization on the green output gap

Insufficient green output can lead to environmental degradation while overinvestment may result in economic imbalances, social inequalities, and opportunity costs. Thus, sustaining an optimal level of green growth could restrict both green neglect and green grabbing. A higher level of financialization is believed to be an efficient allocation mechanism for green development. This research provides empirical insights into how financialization helps narrow the green growth gap. Using various estimation techniques such as the Hodrick-Prescott (HP) filter, Hamilton's filter, and the super-efficiency slack-based model, we examine the heterogeneous effects of financialization on the green growth gap by utilizing unbalanced panel data from 124 countries spanning the period 1980–2020. The results, obtained through bootstrapped quantile regression, indicate that financial access, depth, and efficiency contribute to improving insufficient green growth levels and curbing excessive investment in green initiatives. However, we find little or no evidence that financial stability or liberalization restricts overinvestment in low-carbon economic development or improves environmental stewardship when green neglect is observed. Additional analysis suggests that business cycle fluctuations, especially during recessionary periods, adversely affect the ability of financialization to optimally allocate green resources, but this effect is mitigated if financial development is countercyclical. Policymakers should prioritize promoting financial depth and efficiency, as well as provide access to finance, in order to support sustainable green growth and to avoid overinvestment in low-carbon economic development.