Carbon emissions and default risk: International evidence from firm-level data

In this study, we investigate the effect of carbon emissions on firms' default risk. While existing literature exhibits the implications of emissions for firm performance and value, little is known about its impact on the default risk and underlying economic channels of the impact. Using a panel dataset of 2785 unique firms over the period 2004–2018 from 42 economies, we document a significant and negative impact of emissions on firms' distance-to-default, a reverse measure of default risk. We also provide evidence that firms’ environmental commitments and green initiatives mitigate the effect of emissions on default risk while environmental controversies exacerbate the effect. Finally, we identify the ROA and cash flow volatility as potential channels through which emissions affect the default risk. Overall results suggest that credit risk implications of firm-level emissions are worth considering in policy decisions by relevant stakeholders. •We establish and characterize the impact of carbon emissions on default risk.•The analysis is based on a large firm-level dataset of 2785 firms covering 2004–2018 across 42 economies.•Carbon emissions exert significant negative impact on distance-to-default, a reverse measure of default risk.•Firm-level carbon mitigation strategies help lower the impact of emissions on default risk.•Uncertainty in the firm's profitability and cash-flow serves as a potential channel of the causal relationship.