The Paris agreement on the cost of equity capital in China

Purpose Existing studies offer mixed findings on the Paris Agreement's (PA) impact on firm performance and cost of capital. As one of the largest emitters, China provides a key context to examine how carbon risk affects the cost of equity (CoE) for its firms. We also explore the roles of ownership structure, financing constraints, local regulations and the channels through which the PA influences CoE, with important policy implications. Design/methodology/approach Our sample includes 24,520 listed firms in China spanning the period from 2008 to 2021. We employ a newly proposed measure of CoE by Peng et al. (2024) and the difference-in-difference (DID) model to test the relationship between the PA and the CoE. The robustness tests include the PSM-DID model, the alternative measures of CoE and the fitness of the DID model. Findings The PA significantly increases the CoE for carbon-intensive firms. Furthermore, this effect is more pronounced for state-owned enterprises, firms facing financing constraints and those located in regions with stricter environmental regulations. The increased default risk appears to be the channel through which the PA elevates the CoE. Practical implications When designing environmental regulations to curb carbon emissions, the Chinese government should consider how regulation effectiveness impacts the relationship between emissions and CoE. Additionally, further developing capital markets and leveraging the ‘invisible hand’ to optimize financial resource allocation can support long-term sustainable economic growth. Originality/value While there is extensive discussion on the impact of PA on the cost of debt, the literature on its effect on the CoE remains relatively limited. This paper utilizes a new CoE measure developed by Peng et al. (2024) to accommodate variations in CoE and to provide broader sample coverage. We also explore the channel through which the PA influences CoE.