> topics > Economics

Supply-side structural reform key to dealing with smog

CHEN SHIYI | 2017-02-06 | Hits:
(Chinese Social Sciences Today)

A man wearing a mask rides past the Forbidden City, Beijing in heavy smog.


There is no doubt that the frequent occurrence of smog in China is closely related to the accumulation of malignant effects that stem from decades of rapid economic growth. Smog is in essence an economic problem.

As the economy develops and people’s living conditions improve, economic activity increases. There is high-speed growth in the number of household vehicles as well as the construction of housing and commercial property while the volume of transportation and logistics is also rising steeply.

Efficiently controlling smog has become an urgent task in light of the growing public desire for a more livable environment. We should explore measures of controlling smog by analyzing the factor-driven and innovation-driven economic growth patterns from the perspective of supply-side structural reform. In this way, an entirely new understanding of the environment and development issues may be achieved.

Pollution, factor input
An environmental Kuznets curve (EKC) shows the relationship between pollution and per capita real GDP, which is generally assumed to have an inverted “U” shape. As per capita GDP increases during economic development, the severity of environment pollution increases at first but drops eventually.

The smog situation of most cities in China is still on the left side of the inverted U-shaped curve, and the turning point at which pollution will drop is when annual per capita GDP in China reaches 134,000 yuan. Most Chinese cities are far from reaching this point.

For example, Handan and Tangshan in Hebei Province are typical heavy industrial cities, where heavy industry accounts for more than 70 percent of output value. The added value of heavy industry in both cities makes up more than half of their respective GDP. According to the latest available statistics compiled in 2013, the annual average density of PM 2.5 is 139 micrograms per cubic meter in Handan and 115 micrograms per cubic meter in Tangshan, while Handan’s per capita GDP is 30,800 yuan, and Tangshan’s is 82,900 yuan.

The examples of Handan and Tangshan show the notable positive correlation between smog and the developmental stage of economy.

Statistics on economic growth reveal that capital, energy and labor, which are three factors on the supply side, contribute to, respectively, 47.5 percent, 11.1 percent and 9.1 percent of China’s GDP growth, while total factor productivity (TFP) contributes the remaining 32.3 percent. These statistics indicate China is still in the phase of extensive growth dominated by factor-driven development.

Analysis indicates that, nationally, capital, energy and labor contribute to respectively 69.4 percent, 16.1 percent and 13.2 percent of the nation’s emission of PM 2.5. All these statistics lay the empirical foundation for us to explore smog-control measures from the perspective of supply-side structural reform.

Reasonable investment
By uniting the Kuznets curve with an analysis of economic growth, we may discover how supply-side factor input and TFP affect economic growth and smog, providing possible solutions to the problem from the perspective of supply-side structural reform.

China should transform the investment-driven growth pattern and continue to optimize the investment and industrial structure. As we can see from the aforementioned research, capital factor contributes most to not only GDP output but also smog.

For one, China should transform its traditional investment-driven growth pattern. The massive investment has made local economic growth further dependent on investment. It not only results in redundant construction and overcapacity but also inevitably leads to environmental deterioration due to relatively low environment standards.

Furthermore, China’s industrialization has traditionally focused more on heavy chemical industry, and this situation should be changed. After calculating based on data from the China Industrial Enterprise Database, we find out that heavy chemical industry generally accounts for more than half of the capital stock in each of the 31 provinces, municipalities and autonomous regions in China—excluding Hong Kong, Macao and Taiwan. The lowest proportion is found in Guangdong Province, which is 59 percent, and in some provinces, the number is as high as 80 even 90 percent.

As we can see, the dense concentration of capital in heavy chemical industries makes capital factor the biggest contributor to smog. The large amount of smog in today’s China is closely related to the nation’s rapid industrialization through developing heavy chemical industries.

Adopting new urbanization model
China should, to some extent, slow down the speed of urbanization and adopt a new urbanization model. In this way, the environmental problems of cities may be effectively controlled.

Labor is also a significant contributor to China’s smog, especially in the Yangtze River Delta and the Pearl River Delta, where it contributes more to smog than energy input. This phenomenon reflects the environmental pollution in China’s urbanization. Internationally speaking, accelerated urbanization is always accompanied by rapid industrialization and growing environmental pollution.

China entered a phase of accelerated urbanization in the early 1980s when its urbanization rate reached 20 percent, and by 2013 the figure had grown to about 54 percent. Overly rapid urbanization inevitably causes city problems including the aggregation of smog. Therefore, appropriately lowering the urbanization rate will be an important means by which China can reduce smog from the perspective of labor factor.

At the same time, urban environmental problems that result from over-concentration of population should be effectively managed. Those problems include the heat-island effect brought by massive infrastructure construction, vehicle exhaust emissions from rising numbers of urban vehicles and high industry rate in cities brought by industrialization-dominated urbanization.

Optimizing energy structure
China should transform its energy-driven growth pattern and optimize its energy structure by reducing the total consumption of coal. Environmental problems are essentially energy problems. The aforementioned calculation on emissions shows that energy factor is the second-largest contributor to smog in the Beijing-Tianjin-Hebei Region and the nation as a whole.

Since the start of the 21st century, China has grown from the sixth-largest economy to the second largest. And China became the largest energy consumer in 2009 and the most smog-stricken nation in 2013. Therefore, moving away from an economic growth pattern driven by fossil energy will be an effective way to reduce China’s environmental pollution.

Improving the energy structure by reducing the total consumption of coal will fundamentally reduce the smog level of China. China’s smog is positively correlated with the proportion of coal in primary energy consumption. Therefore, China should fundamentally control the smog pollution through reforms on the supply side, which include cutting coal consumption and optimizing energy structure.

Enhancing total factor productivity
China should continue to improve the TFP of environment by improving energy utilization efficiency and developing emission-reduction technology. Smog emission is in notable negative correlation with TFP.

To improve the TFP of the environment, China should first reform the pricing mechanism of energy, develop the energy market and improve the utilization rate of energy.

The long-term distortion of the energy-pricing mechanism leads to a situation in which economic development is over-dependent on fossil energy consumption. By reforming the pricing mechanism and collecting reasonable energy taxes or resource taxes, the energy market may be able to allocate the resources more properly. In this way, the enterprises with high energy consumption will be forced to reduce energy consumption and improve energy efficiency by means of technology upgrading.

Also, the government should reform the environment tax system, improve environmental standards and develop emission-reduction technologies. Pollution emission taxes based on market mechanisms or smog emission trading policies should be carried out to integrate the social expense of controlling pollution into the production costs of enterprises. In this way, companies will be forced to speed up technology development and upgrading, implement cleaner production and develop emission reduction technologies.

Last of all, China should improve the efficiency of the input factors in the supply side by structural adjustment and optimization. In this way, the country will be able to allocate such factors as capital, labor and energy to industries with higher utilization efficiency and more advanced technology, which include advanced manufacturing, energy conservation and environmental protection industries as well as high-end service industries. Ultimately, the environmental TFP may be improved comprehensively and the fundamental transformation of China’s economic growth pattern may be achieved.


Chen Shiyi is deputy director of the School of Economics at Fudan University.