ESG rating divergence and corporate credit risk

Abstract

Purpose – The integration of environmental, social and governance (ESG) factors into credit risk assessment has gained prominence among investors and corporations. However, the divergence in ESG ratings across agencies introduces additional uncertainty for corporate credit risk assessment. This study investigates the effect of ESG rating divergence on corporate credit risk, including the mediating role of credit ratings and the moderating role of country ESG performance. Design/methodology/approach – Based on a panel dataset of 562 publicly listed firms from 2017 to 2022, the study employs fixed effects regressions to investigate the relationship between ESG rating divergence and credit risk, measured by credit default swap (CDS) spreads and probability of default. Two path analyses assess the mediating role of credit ratings, while interaction terms analyze the moderating effect of country-level ESG performance. Findings – The empirical results indicate that ESG rating divergence increases corporate credit risk, particularly pronounced in the environmental pillar. Credit ratings only partially mediate this relationship, suggesting that ESG divergence exerts a direct effect on credit risk. Moreover, higher country ESG performance mitigates the impact of ESG divergence. Originality/value – This is the first study to examine whether credit markets price ESG rating disagreement across developed and emerging regions using credit default swap spreads as a forward-looking, market-based measure of credit risk. It further advances the literature by testing credit ratings as a mediating channel and by assessing whether country-level ESG performance moderates the relationship between ESG rating divergence and corporate credit risk.