Environmental policy and trade performance: Evidence from China

Abstract

This paper aims at assessing the impact of environmental regulations on the export activity of firms in China. The environmental policy we study is the so-called Two Control Zones (TCZ) policy, which has been implemented in 1998. The aim of this policy was to reduce the sulfur dioxide (SO2) emissions in targeted cities with particularly high air pollution. We use a data set of 243 Chinese cities among which 150 are targeted by this policy for the years 1997 to 2003, and exploit variations across time, sectors and firm types to extract the causal effect of the policy on firms' export performance. We indeed expect the TCZ policy to have a larger impact the heavier the pollution content of the activity and the lower the political status of the firm. In line with the political pecking order of firms that exists in China, we expect the impact of the environmental policy to be mitigated by state ownership. Also, we expect that cities with higher governance efficiency will respect better the new regulations and therefore should have a stronger relative decrease in exports in polluting goods. We find indeed that state-owned firms in polluting industries are less intensively affected and thus able to export relatively more. Further, we find that targeted cities in provinces with good governance are exporting less in polluting industries than targeted cities in provinces with bad governance.