Signaling climate resilience to municipal bond markets: does membership in adaptation-focused voluntary clubs affect bond rating?

Inhwan Ko,Aseem Prakash

doi:10.1007/s10584-022-03329-8

Abstract

This paper examines whether US cities’ membership in voluntary climate clubs improves the municipal bond ratings issued by S&P, Moody’s, and Fitch. We suggest that only clubs focused on climate adaptation could help cities signal their resilience to climate risks and their ability to service their municipal bonds. Yet, club membership is only a signal of intent. By itself, it does not offer concrete evidence that cities have adopted adaptation policies or enhanced their resilience to climate risks. We examine three climate clubs: ICLEI, whose membership obligations cover climate and other environmental issues; C40, whose scope covers both climate mitigation and adaptation; and 100 Resilient Cities (100RC), which focuses on adaptation only. Employing a two-way fixed effects model for a panel of 80 US cities from 1995 to 2018, we find that 100RC membership leads to a small improvement in bond ratings. This has important policy implications: Assurances about implementing adaptation policy, as opposed to evidence about how adaptation reduces climate risks, could have spillover effects on municipal finance. In such cases, climate adaptation could have tangible implications for city-level finances.

Highlights

We suggest that only clubs focused on climate adaptation could help cities signal their resilience to climate risks and their ability to service their municipal bonds
We examine three climate clubs: ICELI, whose membership obligations cover climate and other environmental issues; the C40 club, whose scope covers both climate mitigation and adaptation; and the 100 Resilient Cities (100RC) program, which focuses on adaptation only
We suggest that cities could accomplish this communication goal by voluntarily joining climate clubs (Weischer et al 2012; Nordhaus 2015; Hovi et al 2016; LaRovere 2017) that obligate them to adopt climate adaptation policies

Summary

Introduction

Clubs or voluntary environmental programs are institutions that obligate their members to adopt policies beyond the law’s requirement (Arora and Cason 1996; Khanna and Damon 1999; Prakash and Potoski 2006; Darnall 2006). Club membership constitutes a signal of members’ commitment to specific policies and practices to outside stakeholders. If some stakeholders want to reward actors who have adopted such policies, this signal provides a low-cost mechanism to differentiate adopters from nonadopters. It is less clear why actors pledging to follow specific policies with tangible private costs will not shirk or cheat. In the absence of evidence that actors followed the promised policies and that such policies changed their behavior, outside stakeholders may not find the club membership signal credible. Scholars have noted that clubs that aim to improve members’ environmental performance might have unexpected consequences for, say, labor issues. Co-benefits could have the characteristics of public goods and/or private goods that accrue to club members only

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