Pricing Industrial Pollution in China: An Economic Analysis of the Levy System

An analysis of provincial water pollution control shows that China's pollution levy system has been working much better than is commonly believed. Wang and Wheeler analyze China's experience with the water pollution levy, an emissions charge system that covers hundreds of thousands of factories. The levy experience has not been studied systematically, but anecdotal critiques have suggested that the system is arbitrarily administered and ineffective in controlling pollution. Critics view the levy as a local financing mechanism, but ineffective as a regulatory instrument. Enforcement is thought to vary widely, so that factories in different regions face different penalties for polluting. And it is widely believed that the levy provides little incentive to control pollution because official rates are below marginal abatement costs. Wang and Wheeler test the conventional critique of the levy system using solid new province level data for 1987-93. Their results suggest that the water pollution levy system is neither arbitrary nor ineffective. Across provinces and over time, variations in the effective levy rate are well explained by proxies for local valuation of environmental damage and community capacity to enforce local norms. During 1987-93, rapid development in many provinces led to sharp increases in the effective rate. Their results also suggest that the emissions intensity of Chinese industy was highly responsive to those increases, because marginal abatement costs were often lower than levy rates. And from 1987 to 1993, provincial pollution intensities fell at a median rate of 50 percent, and total discharges at a median rate of 22 percent. The results suggest several lessons for regulators in developing countries: ° Local enforcement of national standards will determine the effective price of pollution in each area. Such regional heterogeneity is nat...