Mandatory Pollution Abatement, Financial Constraint and Firm Investment

Abstract

We provide a theoretical and empirical analysis of how pollution abatement regulation or the designation of nonattainment status affects corporate investment and performance. If consumers value environmental awareness, spending on mandatory pollution abatement and other investment are complements for financially unconstrained firms but substitutes for financially constrained firms. Financially unconstrained firms invest more, have lower current profits but higher future profits while constrained firms invest less, have stable current profits and lower long-term profits. This paper shows that firms’ financial resources are determinants of whether environmental regulation crowds out or stimulates R&D investment and capital expenditure.

Keywords: Mandatory Pollution Abatement, Financial Constraint, R&D, Capital Expenditure

JEL Classification: G32, G38, Q58