The role of banks in China’s green transition: Bigger, or Bitter?

China’s green finance had surged from 2020 to 2024 thanks to announcement of the dual-carbon target coupled with multiple supportive regulations. With a compounded annual growth rate (CAGR) of 30%, the outstanding balance of green finance has more than tripled during this period. By finance type, green loans contributed the lion’s share of 93% of total growth, while green bonds have also grown, albeit slower, at a 12% CAGR due to the credit meltdown since 2021.However, the momentum has been slowing as green loan growth halved versus 2023 and green bond growth falls further to around 5%. We see this slowdown as a mirror of Chinese banks’ waning profitability as the loan interest income, banks’ largest revenue source, has quickly consolidated since 2024 under major cuts in the Loan Prime Rate (LPR) and weakening loan demand. The shrinking profits have thus weighed on banks’ appetite for green assets as their green loan disbursement tightened rapidly.In the same vein, banks seem to have started to lose interest for green debt vehicles when looking at how quickly the interbank turnover of green note transactions has declined, namely by 50% since 2023. On the liability end, the profitability concern is also inflating banks’ cost of green funding as their green premium, namely the yield gap between green and non-green financial bonds, has risen sharply in 2025.All these point to the banking sector’s dilemma between the policy mandate to support green transition and their own interest of protecting profitability and asset quality. However, this dilemma may get more prominent as China’s green finance demand will only increase.First, nearly half of China’s green investment is funded by companies’ reinvested earning which could be largely erased by irrational competition going forward. Second, China needs to broaden its green investment focus to less profitable sectors to keep up the decarbonization as low-hanging fruits like EV and renewables have been picked. Given the wide-spread problem of revenue generation, the private sector will need more external financing, presumably from banks, to fund their green transition.As such, despite the huge upside of green finance in China, banks may find it hard to navigate given their own waning profitability and tightening appetite for green assets. However, as one of the “five major articles” for Chinese financial industry, green finance will certainly play a bigger role in banks’ portfolio. To help banks tackle this challenge, the People’s Bank of China may need to keep the financial conditions to the looser side and/or come up with more tools to support the green and transition finance.