Is climate change fueling commercial banks’ non-performing loan ratio? Empirical evidence from 31 provinces in China

Abstract

The high frequency and strong intensity of climate change pose a huge influence on the banking system. To clarify the correlation between climate change and banks' asset quality, this study evaluated the impact of temperature fluctuations on the non-performing loan (NPL) ratios of commercial banks and their heterogeneity and mechanisms using a dynamic panel data model with 31 provinces in China from 2005 to 2020. The empirical results showed that climate change had a significant positive impact on the NPL ratio, with the adverse effect being stronger in provinces with lower per capita income and environmental infrastructure investment. Moreover, there was an obvious transmission channel of “climate change—labor productivity—income—NPL ratio”. Climate change decreased incomes by lowering labor productivity, thereby weakening economic agents’ ability to repay loans. Furthermore, rising insurance levels and climate-related fiscal expenditure facilitated the diversification and transfer of climate-related default risk. This research supplements the empirical evidence on climate-related financial risks at the provincial level in China, and the findings provide useful insights for enhancing the quality management of climate-sensitive banking assets and maintaining financial stability.