Climate Change Risk and the Cost of Mortgage Credit

Abstract

We show that lenders charge higher interest rates for mortgages on properties exposed to a greater risk of sea level rise (SLR). This SLR premium is not evident in short-term loans and is not related to borrowers’ short-term realized default or creditworthiness. Further, the SLR premium is smaller when the consequences of climate change are less salient and in areas with more climate change deniers. Overall, our results suggest that mortgage lenders view the risk of SLR as a long-term risk and that attention and beliefs are potential barriers through which SLR risk is priced in residential mortgage markets.

Does Climate Change Affect Bank Lending Behavior?

“…In other words, banks have become more hesitant in extending credits to localities causing prominent externalities to the environment. This finding is in line with the prior literature showing that climate risks increasingly interact with the organizational decisions and policies of banks (Nguyen et al, 2020;Javadi and Masum, 2021;Reghezza et al, 2021).…”

“…A growing body of research shows that climate change poses severe risks to the financial system (Nguyen et al, 2020;Javadi and Masum, 2021;Reghezza et al, 2021). Investors are increasingly viewing such risks as being already relevant and having a high potential to materialize (Ilhan et al, 2021a).…”

The Impact of Natural Disasters on Banks' Impairment Flow: Evidence from Germany

“…In contrast, Brown et al (2021) provide evidence that banks indeed charge higher interest rates and tighten credit standards for borrowers increasingly relying and extending their credit lines following abnormal winter weather affecting part of the US during 2014-15. Likewise, findings by Nguyen et al (2021) suggest that US banks seem to charge higher premia for longer-term mortgages exposed to sea level rise. Similar findings are also reported by Barth et al (2019) who demonstrate that US banks seem to increase interest rates on loans, while at the same time also respond to natural disasters by higher interest rates on deposits to secure funding.…”

The Color of Corporate Loan Securitization

“…How do banks manage firms' climate risks? A growing literature focuses on how banks incorporate firms' physical risks related to climate change such as exposures to natural disasters into their lending and risk-shifting decisions (Koetter et al, 2020;Murfin and Spiegel, 2020;Nguyen et al, 2022;Ouazad and Kahn, 2022;Schüwer et al, 2018). However, a fundamental element to mitigate climate risk is not only about adjusting lending to borrowers affected by climate change but also disciplining and incentivizing firms to reduce carbon emissions and make greener investments.…”

“…Similarly, Nguyen et al (2022) outline that lenders are more likely to not price sea-level rise risk when mortgages under consideration can be securitized. Moreover, the findings by Keenan and Bradt (2020) show that, in particular, locally concentrated lenders reduce their exposures to physical risk by selling high-risk loans in secondary markets.…”