Environmental Regulation, Induced Innovation, and Greener Transition: Firm-level Evidence

Abstract

This paper evaluates the impact of environmental regulations on hazardous chemical usage and the role of innovation in the adjustment process. Using newly constructed dataset that links firm-level chemical usage and patent activity, we analyze the effects of Korea’s plausibly exogenous chemical safety Acts enacted in 2015. Our findings show that firms subject to stricter regulations reduced their reliance on hazardous chemicals to comply with the new laws. Innovation plays a crucial role in this transition, facilitating a shift toward eco-friendly practices. Specifically, stricter regulations induced more firm-level innovation, and firms with greater product innovation significantly reduced their hazardous chemical usage. This effect was particularly strong for firms using hazardous substances as intermediate inputs, as they adjusted primarily through product innovation. These results highlight that environmental regulations, alongside innovation, serve as key drivers of an economy-wide greener transition.

Keywords: Environmental regulation, Green chemistry, Porter hypothesis, Product innovation, Firm-level analysis JEL Code: K32, Green chemistry, Porter hypothesis, Product innovation, Firm-level analysis

JEL Classification: K32, O31, Q55, Q58, Q53