Greening China : The Benefits of Trade and Foreign Direct Investment

Joshua Eastin, Ka Zeng

• Publisher: University of Michigan Press
• Year: 2011
• eBook ISBN: 9780472901197
• Topic: Politics & International Relations
• Subtopic: Environment & Energy Policy
• Index: Politics & International Relations

China has earned a reputation for lax environmental standards that allegedly attract corporations more interested in profit than in moral responsibility and, consequently, further negate incentives to raise environmental standards. Surprisingly, Ka Zeng and Joshua Eastin find that international economic integration with nation-states that have stringent environmental regulations facilitates the diffusion of corporate environmental norms and standards to Chinese provinces. At the same time, concerns about "greenâ€_x009d_ tariffs imposed by importing countries encourage Chinese export-oriented firms to ratchet up their own environmental standards. The authors present systematic quantitative and qualitative analyses and data that not only demonstrate the ways in which external market pressure influences domestic environmental policy but also lend credence to arguments for the ameliorative effect of trade and foreign direct investment on the global environment.

CHAPTER 1
Theoretical Contentions and Analytical Approaches

The debate over the effects of trade liberalization and foreign direct investment (FDI), or economic “globalization,” on environmental protection has generated intense scrutiny from environmentalists, policymakers, and academics alike. On the one hand, many economists and globalization proponents contend that the economic gains captured from free trade and FDI offset environmental damage by increasing host-country wealth. In their view, increased wealth empowers citizens and enables higher levels of domestic investment in environmental protection.¹ On the other hand, environmentalists and trade critics argue that a reduction of trade barriers and an increase in FDI should increase environmental pollution, especially in less-developed countries (LDCs) that lack the willingness or capacity to maintain stringent environmental regulation.² They argue that in order to remain competitive in a global environment, developing-country governments have incentive to reduce environmental regulatory standards to attract increased levels of foreign investment and maintain competitiveness in export markets. This process generates a “race to the bottom” (RTB) among political jurisdictions competing for investment and low-cost export production. Investors motivated by cost savings seek out these “pollution havens” (PH) to establish production operations, creating a vicious circle of diminishing regulation and increasing pollution.

China is a key front in this debate. Yet, analysts have generated surprisingly little empirical evidence from China to inform it. It's even more surprising given China's phenomenal economic growth, its increasing integration into the global economy, and its ability to affect both the global ecology and global environmental negotiations.³ This project seeks to fill this lacuna through an extensive, multimethod empirical examination of the effects of increasing trade and investment on the Chinese environment.

Our results challenge both the pollution-haven and the race-to-the-bottom hypotheses. We find that foreign firms do not seek out pollution havens in China. Nor do Chinese provinces lower environmental standards to attract foreign investment. We find that trade can actually increase the financial incentives of export-oriented firms to self-regulate environmental performance to developed-world regulatory standards in the mode of the California Effect.⁴ Further, we find that FDI from the developed world conveys superior regulatory standards from parent company to subsidiary and facilitates the international diffusion and spillover of environmentally cleaner technology.⁵ Ultimately, we expect increasing trade and investment to lead to an overall improvement in Chinese environmental health. However, as our book elaborates, it matters whom the trade is with, and where the FDI originates. The following sections provide an overview of our project and detail our key theoretical contentions.

BACKGROUND AND OVERVIEW OF THE PROJECT

Unfortunately, China's remarkable economic growth in recent decades has been accompanied by considerable environmental externalities. China is currently experiencing environmental degradation on a monumental scale. Industrial, agricultural, and municipal pollution is at or exceeding catastrophic levels for much of the Chinese population. In its rush toward economic modernization, China absorbed the products and processes that fueled similar industrializations in the United States and Europe, but in a world more vulnerable to their costs. The costs, both financial and human, have been high. Recent reports from China's State Environmental Protection Administration (SEPA) claim that environmental pollution costs the Chinese economy approximately 10 percent of annual gross domestic product (GDP), though some estimates measure the actual cost, in terms of human life and livelihood, to be much higher.⁶

Environmental pollution is manifested in different forms, with the most serious threats arising from industrial, agricultural, and municipal air and water pollution. These threats are both local and global in nature. According to the Netherlands Environmental Assessment Agency, China is the largest overall emitter of greenhouse gases in the world and emits roughly twice the amount of sulfur dioxide and particulate matter as does the United States.⁷ This has serious health consequences for Chinese people, but the problem floats well beyond China's borders. With the right wind directions, air pollution can easily blow across international boundaries and into the atmosphere, driving up global temperatures, fueling acid rain, and affecting the respiratory health of people everywhere.

Putrid water undermines the health and prosperity of the Chinese and those downstream that rely on Chinese rivers for drinking and fishing. For Chinese people, water pollution is catastrophic, as China supports a fifth of the world population with access to only 7 percent of the global water supply. Some 90 percent of Chinese cities and 75 percent of Chinese lakes suffer from some degree of water contamination from effluent discharge. As an example, a Chinese newspaper recently described the pollution in the Yangtze River, the primary water supply for 186 cities and hundreds of millions of people, as “cancerous” and provided warning from Chinese environmental experts that the Yangtze could be dead within five years if it remains untreated.⁸ Similar conditions imperil riparian environments across the country. For those downstream that rely on Chinese water, the problem is equally acute. An explosion in 2005 at a petrochemical plant in Jilin province dumped hundreds of tons of benzene, a potent carcinogen, into the Songhua River. The Songhua flows directly into the Heilong River and is the primary water source for the 700,000 people in the Russian city of Khabarovsk. The spill severely contaminated the water supply and is expected to affect fish quality long into the future.⁹

The severity of China's environmental problems raises important questions about sources and potential solutions. While previous studies have focused on the domestic politics of Chinese environmental management,¹⁰ much less scholarly attention has been devoted to the environmental impact of China's growing international economic integration.¹¹ Nevertheless, given that integration constitutes an important engine of China's economic dynamism, it is imperative to understand how these forces affect Chinese environmental protection. The purpose of this study, therefore, is to seek to understand the ways in which the international market influences both provincial-level environmental policy outcomes and the behavior of firms operating in China.

This book links two related conceptual frameworks that have hitherto been treated separately: the pollution-haven hypothesis and the race-to-the-bottom hypothesis. As a common public critique of economic globalization, the race-to-the-bottom hypothesis implies that states or regions compete to attract foreign investment by disregarding environmental standards (or engaging in a race to the bottom). Because the types of industrial investment that find these sites financially attractive are primarily pollution-intensive, locales that support this behavior become known as pollution havens. Based on this distinction, the RTB and PH arguments represent two sides of the same coin: while the RTB hypothesis illustrates the conduct of government, the PH conjecture depicts the outcome of firm response to that conduct. Researchers of these hypotheses generally frame their arguments around two primary assumptions: first, that the outflow of FDI from developed countries is positively associated with the level of environmental regulatory stringency; and second, the inflow of FDI to developing countries is positively associated with an increase in pollution levels.¹² In this book we empirically examine both of these assertions.

In addition to dissecting the relationship between the firm, the Chinese province, and the environmental outcome of variation in trade and investment flows, this book questions the assumption that all firms are created equal. Research into firm behavior has demonstrated that firms are both products of the environment in which they are created and shaped by the actors they engage.¹³ The “trading-up” and “investing-up” phenomena described below help to illustrate these dynamics. According to the trading-up hypothesis, firms that trade with environmentally regulated jurisdictions should have financial incentive to exhibit superior environmental behavior. Vogel uses the case of German automobile exports to California to illustrate how the stringent environmental regulation in importing countries exerts upward regulatory pressure on exporting firms through a threat of diminished market access.¹⁴ Similarly, firms that originate from countries with stringent environmental regulatory norms should be more inclined to convey those norms to countries where they invest. Prakash and Potoski call this “investing up” and find empirical support through a cross-country examination of the impact of foreign investment on firm self-regulation. Using ISO 14001, one of the most well-known environmental self-regulatory programs in the world, they find that ISO adoptions in invested states are positively proportional to ISO adoption rates in investing states.¹⁵ This indicates that firms can actually transmit constructive environmental policies and operational norms through foreign investment. However, this process can be negative as well. Though little research has been done on the corporate transmission of deficient environmental norms and policies, chapter 7 demonstrates that firms that originate in environmentally unregulated states can convey poor regulatory practices to states in which they invest. The trading-up and investing-up phenomena are important to our analysis because they highlight the consequences of stringent environmental regulation in wealthy states and illustrate the mechanisms by which policy can diffuse through international economic networks.

This book empirically examines the impact of trade and foreign investment on the Chinese environment at the provincial level. It reinforces this examination with an analysis of firm behavior in China. Specifically, we address three questions that directly bear on the PH and RTB hypotheses.

• Do firms engage in pollution-haven-seeking behavior among Chinese provinces?

• Does international economic integration exert upward or downward pressure on the environmental behavior of firms in China? Moreover, to the extent that firms are the agents driving provincial policy outcomes across Chinese provinces, how does this affect environmental conditions across and deregulatory competition among Chinese provinces?

• Are provinces that export primarily to countries with stringent environmental regulations and those that receive the bulk of their FDI from such countries more likely to have superior environmental performance? In other words, do the investing-up and trading-up phenomena apply to China?

The empirical evidence presented in this book lends little support to the pollution-haven and race-to-the-bottom hypotheses. Instead, our findings provide considerable support to the following key theoretical conjectures: (1) international investors do not engage in pollution-haven-seeking behavior at the provincial level in China, nor do officials compete to deregulate; (2) Chinese provinces that are more heavily embedded in global trade and production networks tend to have more sound environmental conditions; and (3) a province's environmental regulations are heavily influenced by the level of environmental stringency in primary export markets and FDI home countries. We briefly explain the underlying rationale for each of these theoretical conjectures in the following section.

KEY THEORETICAL CONTENTIONS

This section highlights our key arguments regarding each of the above questions. First, multinational corporations (MNCs) do not seek out provincial pollution havens in China. Rather, MNCs often favor the harmonization of corporate environmental policies with those of the most highly regulated markets in response to a variety of social and institutional pressures. By engaging in self-regulation, export-oriented MNCs can avoid reputation costs from increasingly sophisticated consumers who are aware of the environmental destruction wrought by irresponsible corporate behavior, and import-competing MNCs in the host country can cultivate positive domestic public relations and enhance eco-marketing potential. Pollution-haven-seeking behavior may also be mitigated by the need for MNCs to abide by home-country environmental regulations to streamline operational efficiency and, for exporters, by concerns about regulatory trade barriers in export markets.

Furthermore, it has been argued that both export- and import-competing groups have incentives to lobby for less stringent environmental controls because such measures could confer added cost advantages on both groups.¹⁶ However, in China, exporters already enjoy low-cost advantages against their competitors elsewhere in the market, and there are few groups that directly compete with imports from foreign countries. In other words, in China, and perhaps other large export-dependent developing economies, key domestic business groups lack strong incentives to favor less stringent environmental controls as a way of lowering production and business costs. This should render inoperative another causal mechanism linking trade openness and lax environmental regulation described in other studies.

Second, the same factors that help explain why financial incentives are not lucrative enough to induce MNC pollution-haven-seeking behavior also help us understand why increasing trade and foreign direct investment in China do not necessarily jeopardize the Chinese environment. Provincial officials should be reluctant to jeopardize long-term economic growth by engaging in environmental deregulatory competition because it may engender provincial reputation costs that deter future investment and subject Chinese exports to increased regulatory scrutiny in developed markets. In addition, even in absence of reputation costs as a deterrent, provincial officials are unlikely to use this strategy simply because it is not likely to be effective. Overall, we expect that China's provincial governments are more concerned with ensuring the global marketability of their existing export base and the sustainability and effectiveness of existing environmental policies. In a transition economy heavily dependent on exports, the importance of unencumbered access to global export markets outweighs any potential cost benefits of enabling “dirty” production. Because provincial governments are charged with increasing economic growth within their provinces, threats to major export market access can be quite powerful.

At the firm level, we expect firms to transfer environmental standards enshrined in developed-world import markets, such as the United States and the European Union (EU), through trade networks, along the lines of Vogel's trading-up argument.¹⁷ Firms in China that export to environmentally stringent consumer markets face considerable threats from the erection of environmental trade barriers. Whether or not those threats are great enough to encourage sustainable behavior is likely a function of the level of firm export dependence and the strength of environmental regulation in export markets. Further, similar to Prakash and Potoski's investing-up argument, MNCs originating in environmentally regulated markets are increasingly mandating continuity in environmental regulatory norms between the home office and subsidiary operations in China to avoid increased transaction costs and to streamline international trade. In all but a few heavily polluting industries, the residual cost savings derived from degrading local environments does not outweigh the risk of high reputation costs if an MNC, its subsidiary, or its supplier is linked to environmental destruction. This argument can also be applied to domestic firms, as MNCs could potentially use environmental performance as a supplier-selection criterion. Environmentally conscious supplier selection should instigate domestic firms to self-regulate their environmental performance to meet developed-world standards.¹⁸ In addition, environmental technology developed in response to regulatory pressures in highly developed markets can be transferred to subsidiaries via MNC networks. This can increase both intrafirm operational efficiency and competitive pressure on host-country firms, encouraging them to environmentally innovate.

Taken together, the dynamics described above indicate that globalization may not necessarily lead firms to lower environmental standards or provincial governments to relax enforcement of existing standards to attract investment, as international pressures and technology diffusion via trade openness and FDI contribute to enhanced regulation and policy enforcement. Our statistical tests based on provincial-level pollution emission data, domestic and multinational corporate executive survey, and a case study of an MNC in the paper and paperboard industry lend substantial support to this hypothesis.

Finally, our third proposition finds support for Vogel's trading-up and Prakash and Potoski's investing-up hypotheses, which suggest that trade and FDI can serve to transmit environmental product and production standards through trade and investment networks.¹⁹ However, we contend that not only does the aggregate amount of trade and FDI matter, the export destinations of Chinese provinces and the identity of their key foreign investors matter too. Chinese provinces that either export to or receive most of their foreign investment from countries with more stringent environmental standards are also more likely to exhibit superior environmental performance. In other words, trade and investment linkages encourage better environmental protection if a province's main export markets and foreign investors have progressive environmental standards.

In short, through a thorough examination of the largest developing country in the world with a significantly growing presence in the world economy, this project generates empirical evidence to inform the contentious debate over the environmental effects of globalization. Our empirical findings may also have implications for policymakers as they attempt to harn...

Table of contents

• Cover
• Title Page
• Copyright
• Dedication
• Acknowledgments
• Contents
• CHAPTER 1: Theoretical Contentions and Analytical Approaches
• CHAPTER 2: Debunking the “Pollution-Haven” and “Race-to-the-Bottom” Hypotheses
• CHAPTER 3: Environmental Pollution and Regulation in China
• PROVINCIAL-LEVEL ANALYSES
• FIRM-LEVEL ANALYSES
• NOTES
• BIBLIOGRAPHY
• INDEX