۱- Introduction

۲- Background and related literature

۳- Research design

۴- Empirical results

۵- Further analysis

۶- Conclusion

References

Abstract

This study investigates the causal impact of market-based environmental regulation on firm innovation by examining a large-scale market-based regulatory attempt in a developing country, namely, China’s sulfur dioxide (SO2) emissions trading program. Based on the panel data of China’s publicly traded firms from 2004 to 2015, we adopt the difference-in-differences (DID) model to examine the innovation effects of the SO2 emissions trading pilot policy. The results show that the program leads to a significant increase in patents and environmental patents among regulated firms. And the innovation effects of the policy perform better in areas with a high level of environmental enforcement. In further analysis, we find that the program decreases SO2 emissions and promotes industrial growth in pilot areas. These evidences imply that the market-based emissions trading policy indeed promotes firm innovation and environmental innovation even in the context of a developing country, which is conductive to a win-win situation in both environmental protection and economic growth.

Introduction

Air pollution and climate change are among the most pressing current global environment challenges. To address these challenges, emissions trading schemes (ETSs) have assumed an ever more prominent role among various environmental policies over past decades, and many countries have begun implementing ETSs. The early programs include such as the American Acid Rain Program and the European Union (EU) carbon emissions trading system etc. Until recently, Australia, New Zealand and Canada have also launched the programs to regulate greenhouse gas emissions. Other significant economic areas (e.g., Brazil and Mexico) are in the process of initiating ETSs. With so many programs in the works, ETSs are environmental policies with the largest economic scope in the world today (Calel and Dechezleprêtre, 2016; Taylor, 2012). In the most basic form of the ETS, policy makers set a cap on the quantity of permissible emissions and distribute allowances to emitters that collectively sum to the cap. Firms can freely trade the allowances on the market but must surrender the number of allowances that are equivalent to the amount of emissions at the end of each year (Rogge et al., 2011; Taylor, 2012). The primary goal of the ETS is to achieve a given reduction target at minimal cost; however, it is also critical for such policy providing incentives for technological innovation. Because technological innovation is not only an important driving force for addressing long-term environmental problems and achieving sustainable environment (Inoue et al., 2013) but also an important factor on firms’ productivity growth and competitiveness (Aghion et al., 2016). Therefore, the focus of this study is to examine whether a market-based ETS can influence firm innovation, which is a key determinant of a win–win solution for both environmental quality and economic growth. In theory, an emissions trading program can create two sets of countervailing incentives: on one hand, the program allows firms to meet pollution reduction obligations by purchasing allowances from other emitters, which may reduce their incentive to innovate in the presence of uncertainty during the innovation process (Rogge et al., 2011; Taylor, 2012). On the other hand, the Porter Hypothesis postulates that strict but flexible environmental regulations, such as the ETS, may provide incentives for technological change (Cohen and Tubb, 2018; Jaffe et al., 2002). The ETS may provide incentives for sellers of allowances to innovate to reduce emissions and enable them to sell more allowances. The conflicting incentives imply that the overall impact of the ETS on firm innovation remains unclear. On the empirical evidence side, abundant literature has investigated the innovation effects of such policy.