Trade growth, global production, and environmental degradation

Judith M. Dean , Mary E. Lovely 14 May 2008

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The sheer scale of China's recent trade growth and its environmental degradation are unprecedented.1 In current dollars, the value of China’s exports plus imports rose from $280.9 billion in 1995 to $1422.1 billion in 2005 – a growth of over 400%. Meanwhile, there are almost daily media reports of Chinese rivers and lakes poisoned by pollution and algal bloom, water tables dropping too low to meet basic needs, farmlands tainted by industrial pollution and fertilisers, and cities choking on smog. While major improvements have been made in pollution regulation since the mid-1990s (OECD, 2005), and some progress has been made in achieving cleaner water and air, China’s own State Environmental Protection Agency (SEPA) recently stated that, “[r]elative shortage of resources, a fragile ecological environment and insufficient environmental capacity are becoming critical problems hindering China’s development” (SEPA, 2006). Thus, it is no surprise that China's experience has fuelled the popular view that trade growth is harmful to the environment.

Why is trade seen as detrimental to the environment?

There is solid theoretical reasoning behind this popular view. Copeland and Taylor (1994) develop an elegant theoretical model in which low income countries have lenient environmental standards compared to industrial countries and, hence, a comparative advantage in pollution-intensive goods. They show how trade liberalisation may shift the composition of the country’s output toward its area of comparative advantage, increasing production of “dirty goods.” Moreover, to the extent that trade promotes income growth and raises the scale of production, it raises the use of all inputs, including environmental resources.

While these arguments are compelling, there are other factors at work in newly liberalised countries, as Copeland and Taylor (2004) note. Weak environmental standards may not necessarily give poorer countries a comparative advantage in dirty goods. The use of the environment is only one of many “inputs” into production. Comparative advantage is affected by the costs of other inputs as well, such as capital equipment, skilled labour, unskilled labour, etc., and these costs differ across industries in ways that complicate simple calculations based on environmental compliance costs. Importantly, higher incomes generate pressure for more stringent environmental regulations, implying that as liberalisation leads to higher incomes, incentives for firms to pursue cleaner techniques also rise.2

Recent evidence on trade growth and the environment

Recent empirical research on the relationship between trade and emissions of specific pollutants indicates trade growth might actually foster cleaner production in poor countries. Antweiler, Copeland and Taylor (2001) study the impact of trade growth on SO2 emissions across a large group of countries. Although they find some evidence of a detrimental composition effect from trade growth, they also find evidence that the technique effect was stronger than anticipated, yielding a small net beneficial effect on emissions. A study by Dean (2002) examines the impact of freer trade on China’s water pollution emissions over time and finds some evidence that freer trade has shifted the composition of output toward more water-polluting industries. However, she also finds that trade liberalization raised incomes, tending to reduce emissions growth. On net, her evidence suggests that freer trade reduced industrial water pollution emissions in China.

In a recent working paper, “Trade Growth, Production Fragmentation and China’s Environment,” we calculate and track the pollution content of China’s export and import bundles from 1995 to 2005. Our calculations rely on official Chinese measurements of direct emissions of four pollutants for about 30 Chinese industries.3 We find that as China’s trade has grown, the pollution intensity of almost all sectors has fallen in terms of water pollution (measured by chemical oxygen demand (COD)) and air pollution (measured by SO2, smoke or dust) in 2004. This finding suggests that China has benefited from a positive “technique effect,” as emissions per real yuan of output have fallen across a wide range of industries.4

Our study also reveals that China’s major exporting industries are not highly polluting, and that the export bundle is shifting toward relatively cleaner sectors over time.5 In 1995, textiles and apparel accounted for the largest shares of Chinese exports to the world, but these shares fell by about a third over the following decade. Office and computing machinery and communications equipment, in contrast, were the fastest growing exports and accounted for the largest export share in 2005. What is striking is that these growing sectors are cleaner than textiles and apparel; indeed, they are among the cleanest manufacturing sectors by the available measures of air and water pollution. The most polluting sectors, such as paper and non-metallic minerals, have in fact very low and declining shares in China’s manufacturing exports.

Linking industrial pollution intensities to detailed trade statistics from China Customs, we find that, contrary to popular expectations, China’s exports are less water pollution intensive and generally less air pollution intensive than Chinese import-competing industries. Moreover, both Chinese exports and imports are becoming cleaner over time. Part of this trend reflects changes in the composition of the trade bundle, as noted above. However, our evidence suggests that most of the fall in the pollution content of China’s trade is due to changes in industrial pollution intensities (how China produces), rather than in trade patterns (what China exports and imports). This latter finding has important implications as it suggests that the downward trend is not dependent on relationships with particular trade partners.

Interestingly, recent work by Levinson (2007) shows that US imports have become cleaner over time. Two aspects of Levinson’s work are particularly noteworthy in the present context. First, the “green” shift in imports from non-OECD countries toward cleaner goods is approximately as large as the green shift in imports to the US in general. Second, using the 1997 US input-output table, Levinson finds that even after accounting for pollution created by intermediate inputs used in their production, imports from non-OECD countries have become cleaner over time. Thus, Levinson’s research provides some additional support for our finding that China’s exports are becoming cleaner over time.

Finally, we find some evidence that international production fragmentation, the breaking of production into distinct processes, may have played a role in reducing the pollution content of Chinese trade. “Processing trade” alone accounts for about 56% of the growth in China’s exports and 41% of the growth in China’s imports between 1995 and 2005. If investment in processing activities expands the range of the production process performed in China, this investment will tend to make China’s production and trade cleaner. Additionally, if the foreign-invested enterprises responsible for most of this trade bring greener technologies than those used by domestic producers, this will tend to make trade even cleaner. We find strong evidence that Chinese processing exports are cleaner than Chinese ordinary exports. Statistical testing suggests that processing trade has played a key role in explaining the drop in the pollution intensity of Chinese exports over time and that FDI inflows have contributed significantly to this decline, even controlling for the processing trade share.

References

Antweiler, Werner, Brian Copeland and Scott Taylor, 2001. “Is Free Trade Good for the Environment?” American Economic Review, 91:877-908.

Copeland, Brian R. and M. Scott Taylor, 1994. “North-South Trade and the Environment,” Quarterly Journal of Economics V: 755-787.

Copeland, Brian R. and M. Scott Taylor, 2004. “Trade, Growth, and the Environment,” Journal of Economic Literature, 42:7-71.

Dean, Judith, 2002. “Does Trade Liberalization Harm the Environment? A New Test,” Canadian Journal of Economics, 35:819-842.

Dean, Judith, 2001. International Trade and the Environment (editor). UK: Ashgate Publishers, The International Library of Environmental Economics and Policy Series, November, 2001.

Dean, Judith, and Mary E. Lovely, 2008. “Trade Growth, Production Fragmentation, and China’s Environment,” NBER Working Paper No. 13860.

Levinson, Arik, 2007. “Technology, International Trade, and Pollution from U.S. Manufacturing,” Resources for the Future Discussion Paper RFF DP 07-40

OECD, 2005. Governance in China. Paris, France: OECD.

SEPA, 2006. Environmental Protection in China 1996-2005. Beijing. Information Office of the State Council of the People’s Republic of China. www.sepa.gov.cn/english, downloaded July 2006.

SEPA, 2007. Report on the State of the Environment in China 2006. Beijing. Information Office of the State Council of the People’s Republic of China. www.english.sepa.gov.cn/standards_report/soe/SOE2006, downloaded February 2008.

Footnotes

1 The views expressed here are those of the authors alone. They do not necessarily represent the views of the US International Trade Commission, nor any of the individual Commissioners.

2 This view suggests an “inverted-U” shape relationship between income growth and environmental damage Evidence on the relationship between income and environmental damage is mixed and highly dependent upon time period, countries evaluated, and pollutants examined. For surveys covering the broader literature on trade and environment, see Dean (2001) and Copeland and Taylor (2004).

3 The accuracy of virtually all China’s official statistics has been questioned, yet SEPA is the only source of time-series data on China’s environment. Issues of measurement error certainly make studies such as Levinson (2008), which uses US data, extremely valuable as a way to corroborate trends.

4 What we label a technique effect may in fact also capture a shift in the composition of trade within two-digit manufacturing sectors.

5 Our export pollution intensity estimates capture direct emissions from production of goods in a 2-digit Chinese manufacturing sector, on-site fuel burning in that sector, and indirect emissions from the production of intermediates also classified in that sector. Levinson’s (2007) research using US import data sheds light on the importance of accounting for indirect emissions from intermediate inputs obtained from other sectors.

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Topics:  Environment International trade

Tags:  China, environment, pollution, trade growth