Is TFP clean or dirty? The nexus between environmental and economic efficiency

Improvements in economic productivity are a key driver of economic growth and a primary objective of many national and international policy initiatives. Yet, whether growth-oriented industrial policies also deliver environmental benefits remains debated. This paper investigates the empirical relationship between Total Factor Productivity (TFP) and environmental performance using panel data on about 3000 European firms from 2005 to 2019. We propose a novel framework in which profit-maximizing firms enhance TFP by adopting input-saving technologies, thereby improving environmental efficiency in terms of output per unit of pollution. At the same time, these TFP-enhancing technologies may be associated with higher emissions per unit of input. We estimate three efficiency measures – TFP, input emissions efficiency, and overall environmental efficiency – and analyse their empirical relationship. Our findings reveal that higher TFP is associated with improved overall environmental efficiency, albeit with a weak trade-off with input emission efficiency. The relationship is heterogeneous across different types of firms, as high-TFP firms tend to exhibit lower input emission efficiency, especially when they are already at the top of the environmental efficiency distribution. Overall, our findings suggest that while growth policies can support environmental goals, they are insufficient to drive the green transition on their own, suggesting a complementary role for technology regulations that limit the adoption of input-saving technologies associated with high emissions per unit of input.