Bridges or Barriers? Unpacking the Institutional Drivers of Business Climate Adaptation in the EU

This study examines the critical role of institutional quality in driving corporate adaptation to climate change within the EU-27 member states from 2006 to 2023. It aims to investigate how governance factors—control of corruption, government effectiveness, rule of law, and regulatory quality—influence business strategies for environmental resilience and sustainability, focusing on environmental investments and industrial production. Employing fixed and random effects regression models on a balanced panel dataset, we analyze two dependent variables: environmental protection investment corporations (EPIC), measuring investments in pollution prevention and environmental degradation reduction, and industrial production (IP), reflecting output in mining, manufacturing, and utilities. A composite institutional quality index, derived through principal component analysis (PCA) from the four governance indicators, captures their collective impact, reducing multicollinearity and enhancing analytical robustness. Control variables, including final energy consumption, environmental tax revenues, expenditure on environmental protection, and a Paris Agreement dummy, are incorporated to test the institutional quality effect. Results demonstrate that higher institutional quality significantly enhances EPIC, particularly in countries with greater environmental tax revenues, indicating that robust governance and fiscal policies incentivize sustainable corporate investments. Conversely, the effect on IP is less consistent, with higher fossil energy consumption and lower environmental tax revenues driving production, suggesting a reliance on high-polluting industries. The Paris Agreement positively influences IP, reflecting stronger climate-focused industrial strategies post-2015. These findings underscore the pivotal interplay between institutional quality and environmental fiscal policies in fostering corporate adaptation to climate change. Over the long term, strong governance is essential for aligning business practices with sustainability goals, reducing environmental degradation, and mitigating climate risks across the EU. This study highlights the need for cohesive policies to support green investments and transition industries toward renewable energy sources, addressing disparities in environmental performance among EU member states.