From Compliance to Competitiveness: Unpacking the Impact of ESG Performance on Strategic Innovation and Market Dynamics

Abstract

This article investigates the relationship between environmental, social, and governance (ESG) performance and corporate innovation strategies using an evolutionary game model. It clarifies how firms make strategic decisions under varying ESG benchmarks. The analysis shows that government subsidies help mitigate financial risks linked to exploratory innovation, encouraging firms to pursue competitive return innovation activities. As market competition intensifies, firms often shift toward more conservative innovation strategies—unless counterbalanced by significant profit opportunities. Notably, the findings reveal a “U-shaped” relationship between ESG performance and innovation: early ESG efforts may initially constrain innovation by reallocating resources to compliance, but stronger ESG engagement ultimately enhances innovation capabilities. By integrating stakeholder and institutional theories, this article illuminates how ESG practices influence innovation choices in different institutional contexts, advancing our theoretical understanding of sustainable innovation. These insights can inform corporate strategies and policy frameworks aimed at fostering long-term, sustainable development.