Climate risk and financial stability: Assessing non-performing loans in Chinese banks

Abstract

Climate change poses significant challenges across various sectors, particularly within the financial realm, where the stability of banking systems is paramount. Non-performing loans (NPLs), as critical indicators of financial health, may be considerably influenced by climatic factors. This study delves into the impact of climate change on NPLs within the Chinese banking sector from 2010 to 2022, focusing on the influence of greenhouse gas (GHG) emissions. Utilising a comprehensive dataset and advanced econometric models (including panel quantile regression, sensitivity analysis and balanced panel data models), this research illuminates the intricate relationship between environmental changes and financial health. The research also discovers a significant climate change impact on NPLs, with increased GHG emissions leading to varied responses among banks. This variation reflects the different risk profiles and adaptive capacities of banks to climate-related financial risks. Banks demonstrating higher adaptability to climate change exhibit lower NPL ratios, underscoring the importance of strategic risk management and proactive adaptation in the banking sector. The research significantly advances the understanding of the financial implications of climate change and the interplay of climate variables with financial stability. It offers crucial insights for policy makers and banking institutions, emphasising the need to integrate climate risk into financial decision making and develop robust climate-resilient strategies for the banking sector's protection. In conclusion, the study enriches the discourse on the financial impacts of climate change and serves as an informative guide for stakeholders in navigating and addressing these emerging challenges. It underscores the necessity of embedding environmental considerations within banking practices to promote a resilient and sustainable financial system in the face of environmental uncertainties.