How does green finance development enhance bank stability? Evidence from ASEAN countries

The growing urgency of climate change has added pressures on financial systems at a global scale, and countries and banks around the world are responding to an increasing green finance agenda as part of a larger objective to advance sustainable globalization. For emerging and highly open economies like those found in ASEAN, this growing climate finance agenda is not simply a government policy choice at home, but also a reaction to cross-border regulatory convergence, commitments to international climate targets, and growing global norms around sustainable finance. This study utilizes a panel dataset on 83 commercial banks in six ASEAN countries, including Indonesia, Malaysia, Singapore, Thailand, the Philippines and Vietnam, over the period from 2016 to 2023 to assess how the development of green finance supports bank stability. First, we observe that green finance development provides a positive and statistically significant contribution to bank stability. Moreover, the contribution of green finance to banks is particularly significant in countries more vulnerable to climate change suggesting green finance facilitates countries’ adaptation to environmental risk. Second, we find evidence of an important transmission mechanism through which green finance may support bank stability via bank performance and reducing volatility in profits, and in countries that are climate vulnerable, the development of green finance is also associated with statistically significantly lower volatility in profits. Finally, we provide evidence that in addition to direct effects, the development of green finance contributes to bank stability by decreasing climate vulnerability. This provides an important implication for countries still developing their green finance system, especially for countries that are more vulnerable to climate change.