Short-Term Impact of ESG Performance on Default Risk Under the Green Transition of Energy Sector: Evidence in China

The prevailing view is that ESG performance contributes to corporate financial stability, particularly regarding long-term sustainability objectives. However, there is a notable lack of critical research exploring its short-term financial effects, especially within capital-intensive sectors experiencing green transformation. This study examines the theoretical gap by investigating whether increased ESG performance may unintentionally heighten the financial burden and default risk in the short run. To verify the stability of each variable in the series, we employed the short-panel unit root test on panel data from 234 Chinese energy industry companies covering the years 2015 to 2023. Including enterprise fixed effects as well as time fixed effects, we find that higher ESG ratings increase the possibility of default risk in the Chinese energy sector. This effect remains robust after controlling firm size, financial leverage, return on assets, return on equity, earnings per share, beta and firm age. In addition, we conduct robustness checks using alternative default risk measures, both endogeneity- and component-based, and the outcomes demonstrate that the impact is substantial and consistent. Consequently, we may draw the conclusion that raising the ESG rating has an adverse effect on reducing corporate default risk, which fills the knowledge gap regarding the influence of listed companies’ default risk on China’s energy sector. Moreover, it has been found that green innovation plays a strengthening role in the analysis of the interaction term between green innovation and ESG on default risk. This suggests that while green innovation is a strategic initiative aimed at long-term sustainability, it requires a significant amount of capital and resources in the short term, which may result in higher default risk in the beginning.