Bank diversification and ESG activities: A global perspective

Abstract

The present study uses data from 1385 banks in 89 countries from 2009 to 2020 to analyze whether the banks’ environmental, social, and governance (ESG) activities around the world affect their diversification. We use a two-step system dynamic generalized method of moments technique and find that the relationship between ESG activity and bank diversification is nonlinear. Environmental and social factors negatively impact bank diversification, whereas governance has a positive impact. Bank diversification is affected by ESG overall and individual ESG dimensions more in developed countries. In high-income countries, banks generate more scope for diversification through environmental disclosures. The social activities of the executive management and the board of directors in high-income countries are intended more to satisfy their own needs than those of their banks. Governance disclosure increases income and asset diversification more for banks in high- and upper-middle-income countries. Capitalization, management quality, and liquidity are the channels through which ESG affects bank diversification. We argue that policy makers and regulators need to design and implement tailor-made frameworks and incentivize banks to embrace sustainable finance best practices. The adoption of these practices and the financing of socially responsible projects would drive interest by various stakeholders and thereby attract higher investor interest and bank valuation.