Climate transition risk and enterprise default probability

Abstract

AbstractPreventing and controlling the risk of enterprise default is an important way to maintain financial stability. When mitigating and adapting to climate change, it is important to study whether climate transition risk affects the probability of enterprise default. This article systematically analyzes data for Chinese‐listed companies from 2000 to 2019 and finds that climate transition risk significantly increases enterprise default probability (EDF). In addition, pilot carbon emission trading schemes and national carbon emission trading increase this effect. Financing constraints and profitability act as transmission channels; the transmission path, in turn, is influenced by the enterprise environment, social, and governance (ESG) factors and executive compensation. Excellent enterprise ESG performance can lower the positive impact of climate transition risk on EDF. However, higher executive compensation has the opposite effect: high compensation is associated with higher risk. When considering different business types, climate transition risk is more likely to increase the default probability of small assets or non‐state‐owned enterprises. This study helps describe the internal relationship between climate transition risk and EDF, and provides insights to better prevent and address the problem of enterprise debt default caused by climate transition risk.