Fresh Start or Fresh Water: The Impact of Environmental Lender Liability

Abstract

This paper investigates how the environmental liability of lenders affects debtors' behavior. I use U.S. Census Bureau micro-data and the passage of the Lender Liability Act as a novel identification strategy to answer this question. Firms increase on-site pollution, cut investment in abatement technology, and incur 17.54% more environmental regulatory violations when secured lenders become less responsible for the cleanup cost of their collateral. The effects are stronger for firms close to bankruptcy or with high environmental risks. This lower environmental compliance slightly benefits employment, but does not change wages or production. Overall, financial constraints that may be alleviated due to reduced lender liability do not result in pollution mitigation investment or increased production; instead, my findings suggest that reduced lender liability lessens banks’ incentives to influence the practices of their debtors.

Keywords: Environmental lender liability, Investment, Collateral, Lender monitoring, CERCLA, Climate change adaptation