The Sustainable Value of Market Discipline: How Short-Selling Enhances Corporate ESG Performance

Abstract

This study examines the impact of the securities margin trading policy on corporate environmental, social, and governance (ESG) performance. Using a quasi-natural experiment, we demonstrate that the short-selling threat significantly enhances firms' ESG performance. Mechanism analyses provide evidence consistent with three ESG-related corporate responses: ESG report disclosure, strengthened corporate environmental practices, and improved internal corporate governance arrangements. Cross-sectional tests indicate that the effect is more pronounced among firms with higher executive compensation, greater external supervision, larger staff size, lower customer concentration, and no history of equity pledging. Further analysis suggests that the observed improvement in ESG performance is primarily driven by ex-ante deterrence effects rather than actual short-selling transactions, with consistent enhancements across all ESG sub-dimensions. Importantly, we find no empirical support for the greenwashing hypothesis; instead, the short-selling threat fosters substantive ESG advancements that positively contribute to firm value. Our findings underscore the pivotal role of market discipline in promoting sustainable business practices, highlighting short-selling mechanisms as an effective complement to traditional ESG governance frameworks.