ESG Firms in a Tense World: ESG Ratings and Equity Market Liquidity of European Firms under Geopolitical Risk

Sammanfattning

This study examines whether environmental, social, and governance (ESG) performance moderates the relationship between geopolitical risk (GPR) and bid-ask spreads in European firms. Using a firm-year panel dataset of publicly listed European firms from 2005 to 2024, we combine ESG scores and relative bid-ask spreads from LSEG, and the Geopolitical Risk (GPR) index developed by Caldara and Iacoviello (2022). We estimate panel regressions with firm and year fixed effects, where the main coefficient of interest is the interaction between ESG performance and geopolitical risk. Based on prior research on ESG-related resilience during crises, we hypothesize that European firms with higher ESG scores experience a smaller bid-ask spread increase when the GPR index increases. Contrary to our hypothesis, we find a statistically significant baseline result that firms with higher ESG scores experience wider bid-ask spreads during periods of increased geopolitical risk. The result is mainly driven by the environmental and social pillars, while the governance pillar is insignificant. The finding is reproduced when geopolitical risk is captured by a top-20% high-GPR indicator, but it does not survive when geopolitical risk is restricted to a conflict-spike indicator for 2022 and 2024, and across firm-size subsamples it appears only among large firms. Overall, the evidence points to a state- contingent ESG-liquidity relationship: higher-ESG firms enjoy narrower spreads on average but experience relatively wider spreads when geopolitical risk is elevated. This pattern is the opposite of what the prevailing resilience view predicts, and it shows up most clearly among large firms and under broad measures of geopolitical stress.