Climate risk and corporate debt decision

Abstract

This study investigates the impact of climate risk on firms’ debt decisions from a demand-side perspective in the Chinese market. Using data from Chinese listed companies spanning 2007 to 2022, we examine how physical climate risk influences firms’ leverage decisions. The key findings are as follows: (1) Physical climate risk is negatively associated with firms’ leverage ratios, and this relationship holds across a series of robustness checks; (2) Firm-level climate risk awareness and the geographical allocation of business activities in regions with higher climate risk exposure amplify this effect; (3) Physical climate risk reduces leverage ratios by increasing corporate financing constraints and lowering future profitability; (4) The impact is more pronounced among firms in highly competitive industries, non-knowledge-intensive sectors, and those located in economically underdeveloped regions of China; (5) Firms with greater exposure to climate risk, facilitated by lower leverage ratios, tend to demonstrate stronger sustainable development performance, prioritizing green innovation over traditional innovation. Overall, our findings provide robust empirical evidence for firms to develop sustainability strategies in response to potential climate risks. This underscores the importance of integrating climate considerations into corporate operations, particularly in the context of debt decision-making.