The Rising Tide Lifts Some Interest Rates: Climate Change, Natural Disasters and Loan Pricing

80 Pages Posted: 15 Oct 2020 Last revised: 23 Mar 2022

See all articles by Ricardo Correa

Ricardo Correa

Board of Governors of the Federal Reserve System

Ai He

University of South Carolina - Darla Moore School of Business

Christoph Herpfer

Emory University - Goizueta Business School

Ugur Lel

University of Georgia - Department of Banking and Finance

Date Written: October 13, 2020

Abstract

We investigate how corporate borrowing costs are affected by natural disasters related to climate change. We construct granular measures of borrowers’ exposure to, and therefore risk associated with, various natural disasters. We then disentangle the direct effects of disasters from the effects of lenders updating their beliefs about the severity and frequency of future disasters. Following a climate change–related disaster, interest rate spreads on loans of at-risk, yet unaffected borrowers, spike both in the primary and secondary markets. These effects are amplified when attention to climate change is high and are consistent with banks’ internal assessments of higher probabilities of default for these borrowers. Importantly, there is no such effect from disasters that are not aggravated by climate change. Borrowers with the most extreme exposure to climate change and those with the least ability to absorb adverse shocks suffer the highest increase in spreads.

Keywords: Banks, climate change, loan pricing, natural disasters

JEL Classification: G21, Q51, Q54

Suggested Citation

Correa, Ricardo and He, Ai and Herpfer, Christoph and Lel, Ugur, The Rising Tide Lifts Some Interest Rates: Climate Change, Natural Disasters and Loan Pricing (October 13, 2020). Available at SSRN: https://ssrn.com/abstract=3710451 or http://dx.doi.org/10.2139/ssrn.3710451

Ricardo Correa

Board of Governors of the Federal Reserve System ( email )

20th Street and Constitution Avenue NW
Washington, DC 20551
United States

Ai He

University of South Carolina - Darla Moore School of Business ( email )

1014 Greene Street
Columbia, SC 29208
United States

HOME PAGE: http://www.aihefinance.com/

Christoph Herpfer (Contact Author)

Emory University - Goizueta Business School ( email )

1300 Clifton Road
Atlanta, GA 30322-2722
United States

Ugur Lel

University of Georgia - Department of Banking and Finance ( email )

Terry College of Business
Athens, GA 30602-6253
United States

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