The role of market mechanisms in green innovation: Supply chain spillovers driven by customer environmental awareness

While existing research has largely focused on formal environmental regulation, the role of market mechanisms in driving corporate green innovation remains underexplored. In this paper, we measure principal customers’ environmental awareness using their disclosure of environment-related topics in annual reports and examine whether suppliers incorporate this awareness into their green innovation decisions. Using a sample of Chinese supplier–customer relationships, we find a significant positive association between suppliers’ green innovation output and their principal customers’ environmental awareness. The effect is stronger when suppliers serve government procurement customers, have weaker bargaining power, or operate in more competitive industries, suggesting that both policy-driven and spontaneous market mechanisms facilitate the diffusion of green innovation along supply chains. Additional analyses show that suppliers initially respond with low-cost strategic innovation and shift toward substantive innovation only when environmental pressure reaches a sufficient level. Finally, we find that responding to customer environmental awareness through green innovation helps suppliers build stable customer relationships and improve their product market performance. Overall, our findings provide novel evidence on how market forces can complement government regulation in the provision of public goods, contributing to the broader literature on environmental governance and supply-chain dynamics. • Examines market-driven green innovation through supply chain spillovers, beyond traditional regulatory approaches. • Measures customer environmental awareness via textual analysis of annual reports from firms’ top five customers. • Finds positive spillover effects: suppliers increase green innovation in response to customers’ environmental awareness. • Identifies boundary conditions: effects are stronger with government procurement customers, weaker supplier bargaining power, and higher industry competition. • Reveals a two-stage innovation response: firms start with strategic innovation, then shift to substantive innovation under sustained pressure.