Fiscal Sustainability and Environmental, Social, and Governance Factors in Asia

Debt levels among Asian countries differ significantly, shaped by government expenditures aimed at stimulating growth and responding to challenges such as the COVID-19 pandemic. While integrating Environmental, Social, and Governance (ESG) factors into fiscal planning can initially widen deficits due to higher expenditures, these investments often lead to fiscal sustainability. The purpose of this work is to investigate the impact of Environmental, Social, and Governance (ESG) performance on fiscal sustainability through the fiscal reaction function to the level of debt. The analysis is based on Asian economies, as this region is experiencing a higher level of indebtedness and deficit. This study utilizes the data from 2003-2022 on 23 Asian economies. Three composite indexes are constructed Environmental Index, Social Index, and Governance Index. The study combines all three ESG index and forms a composite ESG index through Principal component analysis(PCA). For Fiscal sustainability, primary balance and the role of government debt are utilized. By applying the fixed effect model, random effect model, and Generalized methods of moments(GMM). The results find that the primary balance is sensitive to debt. Cubic specification of debt has a negative and significant association with the primary balance that shows the fiscal fatigue phenomenon in Asian countries. There is a negative association between the ESG performance index and primary balance. For policy implications, higher transparency and a better enabling environment for investors to foster ESG performance will further enhance ESG performance, resulting in long-term fiscal sustainability.