Climate Policy Risk and Corporate Financial Decisions: Evidence from the NO x Budget Trading Program

Viet Dang, Ning Gao () and Tiancheng Yu ()
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Ning Gao: Alliance Manchester Business School, University of Manchester, Manchester, Greater Manchester, M15 6PB, United Kingdom of Great Britain and Northern Ireland
Tiancheng Yu: University of Exeter Business School, University of Exeter, Exeter, EX4 4PU, United Kingdom of Great Britain and Northern Ireland

Management Science, 2023, vol. 69, issue 12, 7517-7539

Abstract: We find that manufacturing firms adopt more conservative capital structures in response to the Nitrogen Oxides (NO x ) Budget Trading Program (NBP) of 2004, a regional cap-and-trade program aimed at mitigating the NO x emissions of power plants in 11 midwestern and southeastern states in the United States. Our further analysis demonstrates that, because the NBP induces an electricity price shock, it affects manufacturers’ financial decisions by raising their operating leverage and distress risk. We also find that firms respond to the NBP’s adoption heterogeneously: they adjust their financial leverage more dramatically when facing greater electricity intensity, financial distress threats, or competitive pressure. In addition, firms adapt not only capital structure, but also other financial policies in response to the regulation. Overall, our study shows that climate policy risk constitutes an essential consideration in firm financial decisions. It also highlights potential unintended consequences of policy responses to climate change for the corporate sector.

Keywords: policy risk; climate change; emission mitigation/abatement; cap-and-trade programs; capital structure/leverage ratio; financial decisions; input costs; financial distress; operating leverage (search for similar items in EconPapers)
Date: 2023
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Persistent link: https://EconPapers.repec.org/RePEc:inm:ormnsc:v:69:y:2023:i:12:p:7517-7539

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