Institutional quality effects on bank ESG performance: A European outlook

While numerous studies have examined the influence of bank-specific variables on ESG performance, the role of country-specific institutional factors has received comparatively little attention. Drawing on legitimacy theory, this study examines how government effectiveness, political stability, and regulatory quality shape the ESG performance of 71 European banks across 20 countries from 2010 to 2023. Using fixed-effects panel regression with robust clustered standard errors, we find that banks in weaker institutional environments exhibit higher ESG performance, consistent with the use of ESG as a legitimacy-enhancing mechanism. This result holds under a range of robustness checks and after addressing potential endogeneity concerns. When disaggregating ESG into its three pillars, we observe a similar effect for the environmental and social dimensions, while the governance pillar shows no significant relationship with institutional quality. By uncovering ESG’s role as a substitute for institutional credibility, this study offers critical insights for regulators aiming to ensure ESG practices remain substantive rather than symbolic.