Does carbon emission trading mitigate firm's default risk? Evidence from China

Reducing greenhouse emissions and mitigating the existential threat of climate change for the environment and ecological well-being have become a global consensus. On one hand, facing certain pressure of carbon emission reduction, the default risk of firms may increase due to higher costs of environmental regulations. On the other hand, firms' default risk may decrease as firms' sustainable development could tradeoff the transition costs of firms. Under such uncertain conclusions, we investigate the impact of carbon emissions trading (CET) system in China on firms' default risk. Using panel data of Chinese listed firms during 2010–2019, the difference-in-differences method (DID) is adopted to study the influence of CET on firm's default risk. The results show that the CET significantly reduces the default risk of firms. Further analysis shows that this improvement of firms' financial stability is affected by industrial heterogeneity, external financing constraint heterogeneity and firms' own characteristics such as innovation capacity. Overall, our findings not only expand the economic consequences of environmental regulations, but also provide implications on how to improve the Chinses CET pilot policy and construct a national CET market.