Financial Development and Sustainable Transition: Does Governance Matter?
Purpose: This study investigates whether financial development supports the transition toward renewable energy in Asian economies and, more importantly, whether the effectiveness of governance determines how financial development translates into sustainable outcomes. Design/Methodology/Approach: Using a balanced panel of 18 Asian economies over 2004–2024, the study constructs a multidimensional Financial Development Index through principal component analysis (PCA), combining indicators of financial access, banking depth and capital-market development. Renewable energy consumption is used as the principal measure of sustainable transition. The empirical analysis employs two-way fixed effects with Driscoll–Kraay standard errors to account for country heterogeneity and common time shocks. The moderating role of governance is examined through the interaction between financial development and government effectiveness, complemented by marginal-effect and extensive robustness analyses. Findings: The results reveal that the finance–sustainability relationship is strongly conditional on institutional quality. Financial development is negatively associated with renewable energy consumption at the reference level of governance, while its interaction with government effectiveness is positive and highly significant. Marginal effects show that the adverse association progressively weakens as government effectiveness improves and disappears at sufficiently high levels of institutional effectiveness. The central moderation result remains robust to alternative governance dimensions, timing structures, outcome measures, covariance estimators, country exclusions and the exclusion of economies reporting zero renewable-energy shares. Practical Implications: The findings suggest that financial deepening alone is unlikely to guarantee a greener energy transition. Asian economies may obtain greater sustainability benefits from financial development when it is accompanied by credible policy implementation, effective regulation and stronger institutional capacity. Sustainable-finance policies should therefore focus not only on expanding the availability of capital but also on improving the institutional environment that shapes its allocation. Originality/Value: The study contributes to the finance–environment literature by shifting attention from whether financial development is inherently beneficial for sustainability to the institutional conditions under which it becomes beneficial. By integrating a multidimensional financial-development measure with governance moderation, the analysis identifies institutional–financial complementarity as an important mechanism shaping sustainable transition in Asia.