Do creditors price climate transition risks? A natural experiment based on China's carbon emission trading scheme

The pursuit of carbon neutrality by China signifies the country's resolute commitment to proactively tackle climate change. However, traditional energy firms, which function as the pillars of the domestic economy, surely face a significant challenge in the form of "decarbonization." In light of climate transition risks, this study employs the difference-in-difference (DID) model to investigate the impact of China's carbon emission trading scheme (ETS) on the debt financing costs of listed high-carbon firms (HCFs). The findings indicate that the significant increase in debt financing costs of HCFs under ETS can be attributed to the "dual vulnerability" that HCFs exhibit, consisting of heightened credit risk and a diminished environmental reputation. Specifically, the implementation of ETS regulations results in elevated operating costs and future cash flow risks for firms, which subsequently escalates credit risk. This is especially true for establishments situated in regions characterized by high carbon emissions and high scores on the Low Carbon Economic Transition Assessment Index. Such data suggests creditors are progressively placing greater emphasis on the reputation of low-carbon environmental practices. Additional study suggests that firms that possess inferior qualification endowments, less external financing capabilities, and weaker risk-diverting capabilities are more susceptible to the effects of ETS and are subjected to more transformation pressure. The findings of this research hold substantial importance in terms of advancing ETS initiatives in a concentrated, phased, and clustered fashion, guaranteeing technological advancements and seamless transitions for HCFs throughout the carbon peak cycle, and eventually bolstering society's climate adaptability as a whole.