Does credit carbon exposure affect banks' profits and risks? Evidence from China

As the low-carbon transition is being implemented to address climate change, high-carbon credit has been increasing banks' exposure to risk, seriously threatening their financial stability. This study uses Chinese banking data from 2008 to 2020 to examine how credit carbon exposure affects bank profits and risks. The results show that credit carbon exposure improves small bank profits but increases the corresponding risks. In contrast, big banks effectively manage credit risk by forfeiting credit profits to reduce carbon exposure. Strong market competition forces banks to diversify their credit and even lower credit constraints or interest rates to prevent decreased profits. The rising interest rates on high-carbon credit as a response to China's green credit policy help reduce bank credit risks in the short term. However, in the long run, the strict approval of high-carbon credit is more effective. Therefore, heterogeneous regulatory measures should be implemented to guide banks' low-carbon transition.