Cryptocurrency Adoption Dissertation Assignment: ESG Score Impact Analysis at Country Level Using Panel Regression Model

Table of Content

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1.Aims and Objectives

Cryptocurrency has been continuously rising in the financial ecosystem and has grown from a niche asset class to a significant segment. Blockchain technology is a publicly distributed digital ledger, which can be accessed by anyone on a peer-to-peer network. The idea behind crypto is to create a decentralized currency which is not controlled by any central banks, financial institutions or governments. Financial services giants like BlackRock and Fidelity have launched crypto-focused funds. Moreover, traditional banks such as JPMorgan and BNY Mellon have initiated offering custodial services for cryptocurrencies to institutional
and retail investors.

Bitcoin, which is the biggest cryptocurrency in terms of trade volume and value, is an electronic payment system which offers fast, low cost, secure transactions and is aimed at decentralizing the currency. In contrast to fiat currencies, crypto which are based on a blockchain network are not under the control of any banks, government agencies or financial institutions. The use cases of blockchain technology are not only limited to financial elements, blockchain technology essentially serves as a digital storage facility, with applied use cases in official documentation like marriage and birth certificates, managing smart contracts, storage of valuable assets, automation of production chains and much more.

However, with rise of bitcoin, there was an exponential rise in altcoins, which on a superficial level seems to be highly volatile and more sensitive to speculative motives. Some of these altcoins are also associated with their possible links to assisting in financial crimes such as money laundering and other illegal activities such as terrorism financing. The recent bankruptcy of FTX, which at its peak was the third-largest cryptocurrency exchange by volume, sheds light on the inadequate oversight and lack of regulation. FTX had no financial transparency about its dealings and reportedly, the CEO of FTX – Sam BankmanFried, funnelled funds from the user’s accounts to his own trading funds, while manipulating the reports to the users and investors of the company. The nature of anonymity associated with cryptocurrencies and low traceability poses a significant risk for integration. However, it has not stopped financial institutions and investors alike from heading towards mainstream adoption.

Investors and financial institutions globally have been giving paramount importance to ESG concerns. Sustainable development, ethical governance and robust social commitments are highly discussed attributes, closely watched by investors and regulatory agencies. The Paris Agreement witnessed a participation of 190+ countries that committed to attaining net zero by 2050, the core objective behind the move is to control the global temperature rise and keep it well within the 2°C threshold. Such initiatives signify how seriously countries consider the ESG metrics (United Nations Framework, 2015) . It is evident by the rapid growing assets under management (AUM) of ESG related assets, which is projected to reach 33.9 trillion USD by 2026, which signifies 20% of all the investment globally. (CoinDesk, 2023) Cryptocurrency has been discussed to have serious ESG concerns, particularly in the mining of bitcoin, since it requires extensive energy consumption and is a continuous process as the cryptographically
linked record (distributed ledger) needs to be constantly reviewed and updated. Şerif DİLEK and Yunus FURUNCU’s 2018 paper on “Bitcoin Mining and Its Environmental Effects” states that bitcoin mining, at present consumes more electricity than some individual countries. Since 75% of global energy still comes from sources dominated by coal and other hydrocarbons, cryptocurrencies have a significant reliance on fossil fuels and thus an enormous carbon footprint.

There are various opinions of bitcoin and other cryptocurrencies in the market, there is the optimistic side which focuses on the legitimacy of the blockchain and cryptographic principles that govern the blockchain network ensuring that it cannot be manipulated. The pessimistic opinion suggests that in the absence of clear regulatory principles and a well-established controlling authority it could cause a “balloon-lunacy” financially, causing environmental damage in the process due to the enormous energy consumption. The
pessimistic side of the opinion argues that there needs to be adequate regulatory framework to be brought into the system in order to establish cryptocurrency as a mainstream asset class. The optimistic opinion on the other hand, focuses on the multiple use cases, the mathematical legitimacy of the cryptographic principles and the decentralized structure of the currency.

These contradictory opinions about cryptocurrency raises a crucial question, how do ESG perceptions affect cryptocurrency adoption at the country level. ESG issues are a crucial component of investor sentiment, but little is known about how exactly these concerns affect investment choices and whether investors are open to or reluctant to embrace cryptocurrencies.

2. Literature Review

It can be inferred from the literature review that ESG assets have outperformed the Non-ESG assets when positive shocks about ESG metrics like investor’s changing attitude towards renewable energy consumption and green investments hit the market. (See Lubos Pastor, Robert F. Stambaugh, Lucian A. Taylor “DISSECTING GREEN RETURNS”). However, there is no clear link between these attitudes and the investment decisions on a country level. For example, the research paper by Anderson and Robinson (2021) could not establish a link between ESG attitudes and pro environmental portfolios. Even less is known

about the specific effects towards cryptocurrency adoption. (Anderson, A. and Robinson, D. T. (2021) “Financial literacy in the age of green investment.” Review of Finance, 63 (12), 1572–3097).

Prior to the contrary belief generated by news media agencies, which portray that cryptocurrency has massive ESG concerns and thus highly aware ESG investors would be ideally reluctant towards adopting  crypto, however drawing inference from the research paper (Ciaian et al. (2024)) which states that investors with higher ESG concerns were more likely to hold crypto assets whereas the same concerns did not affect traditional assets. This was a surprising finding, which challenges contrary perception, has provided useful insights as to why this might be the case. Inferences from this study will be discussed and used multiple
times in the research paper as it holds high relevance to the research topic.

According to a research by the University of Cambridge (Lucia et al. (2021)) , bitcoin mining consumes about 0.4% of global energy consumption. This energy consumption exceeds the energy consumption of countries like Argentina and remains mostly reliant on fossil fuels. On the other hand, the crypto sector has been actively taking steps in order to ensure reduction in high carbon footprint of the industry. Cryptos like Ethereum have shifted from a Proof-of-Work model to Proof-of-stake model, which cuts its energy consumption by a staggering 99.9% (Howcroft et al.(2022)). It remains to be observed, what steps do other cryptos adopt in order to reduce the carbon footprint and what are the sentiments of the investors and
financial institutions towards these measures.

A recent research paper highlighted that very few papers have considered the ESG perspectives in crypto research (Alqudah et al. (2023)). It remains unclear how ESG factors influence the national adoption of cryptocurrency. This proposal investigates whether countries’ ESG performance affects their rate of crypto adoption

Research Question:

Given these mixed findings and gaps, out study tries to answer:

1. Is there a correlation between country ESG scores and cryptocurrency adoption rates?
2. Which specific dimensions out of the three (Environment, Social and Governance) drive the most impact towards cryptocurrency adoption? – The existing literature (See Anderson and Robinson 2021) states the importance of the energy intensity (environmental metric) and regulatory clarity (governance dimension). This research paper dissects the ESG scores and looks them at a granular level by incorporating the country wise score on each metric into the study.
3. What role do social factors such as public sentiment, existence of digital infrastructure and attitude of the government and financial institutions play in the adoption of cryptocurrencies?
4. Can a high ESG and a high crypto future coexist? –This paper tries to answer the question of whether growing importance of ESG concerns does or does not cause a slowdown in the adoption of cryptocurrency as a mainstream asset class.

3. Methodology

In order to test the relationship between the ESG metrics and crypto adoption rate, we propose to run a panel data regression test, which is laid out below.

𝐶𝑟𝑦𝑝𝑡𝑜𝑑𝑜𝑝𝑡𝑖𝑜𝑛 = 𝛽0 + 𝛽1𝐸𝑛𝑣𝑖𝑡 + 𝛽2𝑆𝑜𝑐𝑖𝑡 + 𝛽3𝐺𝑜𝑣𝑡𝑖𝑡 + 𝛽4𝐶𝑜𝑢𝑛𝑡𝑟𝑦𝐶𝑟𝑦𝑝𝑡𝑜𝐴𝑑𝑜𝑝𝑡𝑖𝑜𝑛𝑖𝑡 + 𝛽5𝐼𝑛𝑓𝑙𝑎𝑡𝑖𝑜𝑛𝑟𝑎𝑡𝑒𝑖𝑡 + 𝛼 + 𝛾𝑡
+ 𝜀𝑖𝑡

• 𝐶𝑟𝑦𝑝𝑡𝑜𝑑𝑜𝑝𝑡𝑖𝑜𝑛 denotes a dependent variable. Cryptocurrency adoption rate in country i at time t
• 𝐸𝑛𝑣𝑖𝑡 denotes an independent variable to capture the country level environment score of country i at time t
• 𝐺𝑜𝑣𝑡𝑖𝑡 denotes an independent variable to capture the country level governance score of country i at time t
• 𝑆𝑜𝑐𝑖𝑡 denotes an independent variable which captures country level social score of country i at time 𝐶𝑜𝑢𝑛𝑡𝑟𝑦𝐶𝑟𝑦𝑝𝑡𝑜𝐴𝑑𝑜𝑝𝑡𝑖𝑜𝑛𝑖𝑡 an independent variable which captures country level crypto adoption rate in country i at time t
• InflationRate denotes an independent variable which captures the country level inflation rate in country I at time t
• α denotes a control variable to control for unobserved heterogeneity across countries
• γt also denotes a control variable to control for the global shocks or trends that affect all countries similarly
• εit denotes the error term

Assumptions of the model

1. No Autocorrelation : Error terms should not be correlated across time
2. Homoscedasity : The variance of error terms is constant across observations.
3. Linearity : The dependent and independent variables share a linear relationship.
4. No Multicollinearity : The independent variables should not be highly correlated with each other. Test in  order to check multicollinearity between the independent variables (specially E, S and G) is a must.
5. Exogenity : Independent variables are assumed to be not correlated to the error term.

Limitations of the Model

• Measurement Error : Capturing, scoring and ranking each ESG metric (E, S, G) is a subjective task and can differ based on the data provider (Robeco or others) as it an index derived from multiple metrics. The same is applicable for country level crypto adoption scores. Any bias or inaccuracy in the dataset can affect the coefficient estimates.
• Omitted Variable Bias : Despite including control variables in the model, there is a possibility of other factors at play like unobserved country level attributes such as cultural attitude which affect the cryptocurrency adoption metric but are hard to capture.

Data Collection and Rationale

We are using the country wise ESG score provided by Robeco. The rationale behind choosing this specific data source is that Robeco captures an overall composite ESG score and also provides granular level data by providing data on each economic, social and governance metric. The ranking covers 150 countries and the methodology that is followed in order to calculate the scores, is the contribution of the country in question towards various sustainable development metrics, from healthcare to democracy.

The country level cryptocurrency adoption rate is sourced from Chainalysis Global Crypto Adoption Index, which calculates adoption scores by aggregating weighted metrics of peer-to-peer exchange trade volume, retail cryptocurrency activity, and transaction volumes relative to the purchasing power parity per capita and internet-using population within countries. It is to be noted that the crypto adoption scores sourced through Chainalysis are already adjusted on a GDP per capita and Purchasing Power Parity (PPP) basis.

Tests such as the Durbin-Wu-Hausman (DWH) are mandatory to check for potential endogeneity between the variables.

Data Availability and Sources

The datasets and data sources used in this dissertation, are from publicly available sources and easily accessible. The sources for the ESG score and cryptocurrency adoption score are of extreme importance in the study and clearly outlined in the references section. The methodology used in calculating these scores is also described in the paper. No confidential information will be required to complete the research paper and test the hypothesis.

Plan for Project Completion:

4. References

1. Alqudah, M., Ferruz, L., Martín, E., Qudah, H. and Hamdan, F. (2023). The Sustainability of
   Investing in Cryptocurrencies: A Bibliometric Analysis of Research Trends. International Journal of Financial Studies, [online] 11(3), p.93. doi: https://www.mdpi.com/2227-7072/11/3/93 [Accessed 19 Mar 2025].
2. Anderson, A. and Robinson, D. T. (2021). Financial literacy in the age of green investment. Review of Finance, 63 (12), 1572–3097.
3. Chainalysis (2024) 2024 Global Crypto Adoption Index. Available at:
   https://www.chainalysis.com/blog/2024-global-crypto-adoption-index (Accessed: 12th March 2025).
4. CoinDesk (2023) Ethereum tops new crypto ESG ranking, Bitcoin slammed for heavy energy usage. 13 July. Available at: https://www.coindesk.com/markets/2023/07/13/ethereum-tops-newcrypto-esg-ranking-bitcoin-slammed-for-heavy-energy-usage (Accessed: 15 March 2025)
5. Deloitte (2023). “Deloitte Global Blockchain”. Available at
   https://www2.deloitte.com/us/en/insights/topics/understanding-blockchain-potential/globalblockchain-survey.html (Accessed: 18 March 2025).
6. Dilek, Ş. and Furuncu, Y. (2019) Bitcoin Mining and Its Environmental Effects, İktisadi ve İdari Bilimler Dergisi, 33(1), pp. 91-105.
7. Howcroft, E. and Lang, H. (2022). Explainer: Ethereum’s energy-saving Merge upgrade. Reuters. [online] 15 Sep. Available at: https://www.reuters.com/technology/ethereums-energy-savingmerge-upgrade-2022-09-15 [Accessed 12 Mar 2025].
8. Makarov, I. and Schoar, A. (2021) Blockchain Analysis of the Bitcoin Market. NBER Working Paper No. 28940. Available at: https://www.nber.org/system/files/working_papers/w28940/w28940.pdf
   (Accessed: 18 March 2025).
   

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9. Meloni, L. and Compiègne, V. (2021). Cryptocurrencies and ESG: a contradiction in terms? [online] Candriam. Available at
   https://www.candriam.com/siteassets/medias/publications/brochure/researchpapers/cryptocurrencies/cryptocurrencies_2021_en.pdf#:~:text=recorded%20using%20a%20dece
   ntralised%20system%2C,niche%20types%20of%20crypto%20such (Accessed: 20th March 2025)
10. Pastor, L., Stambaugh, R.F., and Taylor, L.A. (2022) ‘Dissecting Green Returns’, Journal of
    Financial Economics, 146(2), pp. 403–424. Available at:
    https://www.sciencedirect.com/science/article/pii/S0304405X22001672 (Accessed: 18 March 2025).
11. Pavel C., Andrej C., Pirmin F., Kancs A (2024) ‘Environmental and social attitudes and
    investments in crypto-assets.’ Available at
    https://www.tandfonline.com/doi/epdf/10.1080/00036846.2023.2297742?needAccess=true
    (Accessed: 15 March 2025)
12. Robeco (n.d.) How do companies and countries score on sustainability? Available at:
    https://www.robeco.com/en-int/sustainable-investing/how-do-companies-and-countries-scoreon-sustainability (Accessed: 18 March 2025).
13. Srivastava, M., Sahni, H. and Dhyani, P. (2022) Understanding Cryptocurrency Adoption: An Overview of Trends, Motivations, and Barriers. Available at: https://arxiv.org/pdf/2206.14548
    (Accessed: 20th March 2025).
14. UNFCCC (2015) Adoption of the Paris Agreement. FCCC/CP/2015/L.9/Rev.1, United Nations. Available at: https://unfccc.int/sites/default/files/resource/docs/2015/cop21/eng/l09r01.pdf
    (Accessed: 17 March 2025).