No Safe Haven For Polluters

By Hubert Thieriot 14 June, 2017

As affluent eastern provinces clean up, CWR's Thieriot explores the risk that pollution moves inland

On 18 March 2017, Beijing closed its last coal-fired power plant out of air pollution concerns, whilst in the meantime, investment in coal-fired power plants is rising in central and western areas. Earlier in 2015, Fujian province closed 13,000 pig farms, with many of them expected to move inland. These examples illustrate the risk that urban, eastern and relatively wealthy provinces end up outsourcing pollution to inland and often upstream provinces.

In some cases, the main motivation to relocate is to escape tight environmental regulations for lesser ones…

There are multiple reasons behind these relocations, including resource endowment, growing local demand, labour wages and land costs. In some cases however, the main motivation to relocate is to escape from tight environmental regulations. Hence the so-called pollution haven conundrum: by enacting and enforcing tighter environmental regulations, the risk is that polluting industries simply leave the jurisdiction looking for more lenient places, making these very regulations less efficient, if not counter-productive.

…hence the so-called pollution haven conundrum

This pollution haven effect is often recognised at the international level, yet it can also happen within one country at the provincial level. This is particularly true in China where relative decentralisation allows provinces to wage the ‘war on pollution’ with varying strength.

Decentralisation creates conditions of a race-to-the-bottom

When it comes to environmental regulations, China is a fairly decentralised country. Provinces are given much leeway to implement centrally-led regulations. Local Environmental Protection Bureaus, responsible for regulations enforcement, are still very much relying on provincial governments for their staff and funding, despite recent efforts towards more vertical integration. Moreover, economic targets still significantly outweigh social and environmental targets.

Some provinces run a race-to-the-bottom to attract industries

This creates conditions for a race-to-the-bottom whereby some provinces leniently enforce environmental regulations or content themselves with the strict minimum in a bid to attract or preserve polluting (but tax-paying and job-providing) industries within their jurisdictions.

Evidence of pollution haven effect in China

Such competition across provinces has been highlighted in a recent study which found that the relocation of polluting plants in China mainly happens across provinces rather than abroad. Another study showed that policies on sulphur-dioxide reduction in targeted areas lead to more closures of polluting firms in targeted locations and more new polluting firms in non-targeted areas; a similar phenomenon has been observed in Guangdong provinces where hundreds of polluting industries relocated from the Pearl River Delta to upstream prefectures after air pollution measures were set in place. The growing compliance costs and additional resources required were key drivers of this transition.

Yet not all enterprises are affected equally, and not all political measures have the same effect on industries’ relocation.

An uneven playing field: compliance and enforcement asymmetries

Firms do not react in the same way to regulations depending on their size, resources to innovate, and ownership structure, creating so-called compliance asymmetries.

For instance, smaller firms are usually less well-equipped to interpret and implement new regulations; similarly, the unit cost of pollution abatement can be higher for small firms since fixed costs are spread over a lower output volume – see here for an instance of how small textile manufacturers could be hit by the ‘Water Ten’.

Besides, regulations may be enforced unequally across firms, resulting in enforcement asymmetries. There has been mixed evidence on this front, with some studies showing that large firms are more protected thanks to their political power (especially in the case of SOEs), whilst other research emphasises the higher exposure of large firms due to their visibility.

Not all firms are affected equally

However, it is widely considered that SOEs usually hold a strong bargaining position with local governments given their great political power. On top of that, SOEs often have easier access to finance and softer budget constraints.

Not all political measures are equally effective

What studies have also shown is that not all political measures are equal. For instance, direct subsidies can prove a double-edged sword: polluting firms receiving large amounts of subsidies may be discouraged from innovating and make them more reliant on government support.

Industrial parks can reduce risks; thus preventing relocation

Other approaches can yield longer-lasting benefits, such as the development of industrial parks. Simply put, by offering shared waste and wastewater treatment facilities, these parks can reduce compliance costs and regulatory risks for the firms they host (see the example of Tianjin Economic Development Area). They also enhance knowledge spillover and capacity building. Finally, earmarked subsidies toward pollution abatement technologies also prevent relocation of polluting firms whilst reducing pollutant discharges. Yet overall, fostering inter-provincial cooperation might be the best answer.

The key role of cooperation and transboundary initiatives

Over the past few years, various mechanisms have been set in place by central and local governments to organize provincial cooperation on pollution issues.

For instance, Zhejiang, Jiangsu and Shanghai have been holding joint annual meetings for a few years already in a bid to solve Taihu Lake’s pollution issues. The ‘Pan-Pearl River Delta’ (PPRD) is another cooperation mechanism initiated by 9 Provinces along the Pearl River. Up in the North, Beijing, Hebei and Tianjin have pledged a joint effort to fight air pollution; Hebei has already received substantial financial support from the two neighbour municipalities to reduce its air pollutant emissions.

Such eco-compensation mechanisms, which received formal recognition in the last revision of the Environmental Protection Law, are another way to incentivise cooperation across governments. Applied to watersheds, it means that downstream regions support upstream ones for their efforts to clean-up water (or are penalising them when they fail to do so).

These mechanisms will certainly help level the playing field across provinces, but companies need to get in the game too.

Relocating may be a short-sighted strategy 

For corporates and large MNCs, it might prove short-sighted to constantly try to escape tight environmental regulations. The “war on pollution” is a national environmental ambition, with nation-wide targets, standards and monitoring systems. Seeking provinces with weaker supervision and enforcement can be a “relief” in the short term, but great regulatory risks loom ahead for these companies in the future as the demands for clean air and water extend to every single province – read here about the impacts of the Environmental Protection Law, two years after coming into effect.

Strict environmental regulations can induce higher efficiency & improve competitiveness

Moreover, some studies have argued that strict environmental regulations can induce higher efficiency and encourage innovations that will ultimately improve commercial competitiveness. It is often called the Porter hypothesis, named after the economist Michael Porter. The Porter hypothesis is often pitted against the Pollution haven hypothesis, although these two do not necessarily contradict each other. These have actually been shown to co-exist in China.

More generally, corporate social responsibility can prove a good antidote to the environmental race-to-the-bottom, and that taking care of local water resources could be in companies’ own interests.

Further Reading

• 2016 State of Environment Report Review – The signs are positive for China’s environment in 2016. Groundwater quality improved after 5 years of decline though there is mixed news for rivers & lakes. Is the tide turning in China’s ‘war on pollution’?
• Environmental Law: 2 Years On – China’s new Environmental Protection Law has been in force more than two years now. Has it been enforced? What has the impact been? Who has been hit? Professor Wang Canfa from the University of Political Science and Law in Beijing reviews
• 12FYP Water Quality Report Card – Bao Hang & Deng Tingting from Greenpeace East Asia share key findings from their report on provincial performance in the 12FYP. Which provinces met water quality targets? Which failed?

• Key Water Policies 2016 – 2017 – Missed out on the key water and water-related policies in China over the last year? Get up to speed with China Water Risk Dawn McGregor’s review, including the latest on the water law
• Water Ten & Fashion: 8 Reasons to Leap or Fall -China Water Risks’ Hu shares 8 reasons why China’s Water Ten is actually an ultimatum for textiles to leap or fall. They need to decide which soon, as there is only two to three years before the paradigm shift
• Water Stewardship In Industrial Parks: TEDA Pilot – Industrial parks generate 22.5% of China’s GDP but can this last given water security and pollution concerns? An Chen, from the TEDA Eco Center & Zhenzhen Xu from the Alliance for Water Stewardship show how the Tianjin Economic-Technological Development Area leads in mitigating these risks
• Corporate Water Targets: A New Approach – More and more companies view water as a business risk and water stewardship as a solution but current water stewardship metrics for on-ground projects are inadequate