Banking on Carbon : Corporate Lending and Cap-and-Trade Policy

We estimate the effect of carbon pricing policy on bank credit to greenhouse gas emitting firms by studying cap-and-trade legislation. Our analyses exploit a discontinuity in the embedded free-permit threshold of the federal Waxman-Markey cap-and-trade bill and the geographic restrictions inherent in the California cap-and-trade bill. Affected high-emission firms face shorter loan maturities, lower access to permanent forms of bank financing, higher interest rates, and higher participation of shadow banks in their lending syndicates. These effects are concentrated among private firms, suggesting banks are less concerned about the policy's impact on public firms. Overall, we show that banks quickly mitigate their exposure to climate transition risks