An empirical analysis of climate and environmental policy risk, the cost of debt and financial institutions' risk preferences

Journal article

This study examines the impact of regulatory risk on the cost of debt and investment preferences across energy sources. We use the OECD Environmental Policy Stringency Index, loan spreads and investment decisions as measures of climate and environmental (CE) policy risk, cost of debt and risk preferences, respectively. We find that the stringency of CE policy risk influences investors' assessment of investment risks and capital allocation across energy sources. In the energy production sector, we observe that greater stringency in CE policies (such as carbon trading schemes) is associated with lower borrowing costs for renewable energy compared to fossil fuels, leading to increased investment in renewables. Moreover, as CE policies become more stringent in a country, the probability of capital flowing into Oil & Gas or coal diminishes. In the electric utilities sector, we provide evidence that CE policies (solar & wind support policies) effectively attract more capital to renewable electric utilities.

Authors: Zhou, X; Caldecott, B; Shrimali, G; Zhang, H

• Publication status: Published
• Peer review status: Peer reviewed
• Publisher: Elsevier
• Journal: Energy Economics
• Volume: 144
• Article number: 108323
• Publication date: 2025-02-19
• Acceptance date: 2025-02-11
• DOI: 10.1016/j.eneco.2025.108323
• EISSN: 1873-6181
• ISSN: 0140-9883
• Language: English
• Keywords: investment decisions; cost of debt; risk preferences; climate and environmental policy risk