Firms’ climate risks and bank lending: Evidence from the COVID-19 crisis

• The analysis of the effect of firms’ climate risk on bank lending behavior during the COVID-19 • We use Japanese firm-bank loan data to show that banks reduce lending to firms with high CO2 intensity. • Banks that previously invested heavily in these firms increased their lending. • Bank lending to firms with high CO2 intensity varies according to their capital buffers. • The results indicate that banks consider climate risk when reallocating funds during a liquidity shock. Climate risks influence banks' lending behavior during the COVID-19 pandemic. Our study uses Japanese data to show that banks reduced lending to high CO2 intensity firms at the start of the crisis and the following year. However, banks that previously invested heavily in these firms increased their lending, especially to firms with significant declines in sales. Our results also reveal that bank lending to high CO2 intensity firms varies according to their capital buffers. These findings hold even when considering zombie lending and bank relationships, indicating that banks took climate risks into account when reallocating funds during a liquidity shock.