Green Growth for China?

The recent history of China has been one of spectacular economic growth. The country’s GDP soared from 3.43 percent of global GDP in 2000 to 11.35 percent in 2012. Its per capita income of US$6,100 in 2012 puts China in the category of middle-income countries such as South Africa, Egypt, and Thailand.

At the same time, China has experienced very serious environmental degradation. Its energy consumption has increased rapidly, and it overtook the United States as the world’s largest energy consumer in 2010. Coal has been China’s dominant source of energy, accounting for 66.6 percent of the country’s total primary energy consumption in 2012. Given this heavy reliance on coal, China became the world’s largest carbon dioxide (CO2) emitter in 2006, and in 2012 it accounted for 29 percent of global CO2 emissions.

"The environmental situation in China is so dire that the country’s prior consensus of focusing on economic growth over environmental protection has broken down."

In addition, China’s air, water, and soil have been polluted to alarming degrees. Extreme air pollution in China, for example, is making international headlines, and this is not just anecdotal: In March 2014, China’s Ministry of Environmental Protection announced that only 3 of the 74 large Chinese cities it monitors met official stan­dards for air quality in 2013.

The environmental situation is so dire that the country’s prior consensus of focus­ing on economic growth over environmen­tal protection has broken down, spawning interest in the potential for green growth strategies for China. “Green growth” is a politically attractive term because it speaks simultaneously to two key challenges currently faced around the world: economic growth needed to improve the living standards of the world’s growing popula­tion, and measures needed to address the issues of environmental sustainability and climate change.

Sweeping energy and environmental policies—such as China’s enormous effort to decarbonize its energy system through increased reliance on wind and nuclear generation—are one crucial step toward a green growth path. But they will not succeed without the support of changes to the country’s institutional rewards system and governance structures, which until now have prioritized GDP growth over environ­mental protection.

The Relationship between GDP Growth and the Environment

Green growth is generally used to mean economic growth that is environmentally sustainable. Thus it carries with it the claim that environmental protection is, at a mini­mum, compatible with economic growth. When economists think about the relation­ship between GDP growth and the environ­ment, they often point to the environmental Kuznets curve.

As income rises over time, environmental pollution first becomes more serious but then eases after the GDP per capita in the country or region reaches certain levels. This stylized fact is known as the environ­mental Kuznets curve, where the vertical axis is environmental degradation instead of environmental quality (Figure 1). The environmental Kuznets curve is the subject of vigorous debate in the economics literature. Many observers have noted that this curve does not fit many indicators of environmental quality, such as soil fertility and the health of fisheries, as well as levels of greenhouse gas emissions. While the richer countries today are indeed reducing the levels of some pollutants—such as sulfur dioxide, ozone, and DDT—most are still raising their levels of CO2 emissions per capita. Still, it is useful to invoke this phenomenon to think about the driving force behind the decoupling of most pollut­ants and GDP growth in developed coun­tries and the meaning of green growth.

Just as GDP growth effects the environ­ment, environmental policies can affect GDP growth and social welfare through a variety of channels. One positive outcome is that they may increase natural capital, such as cleaner air. Cleaner air, in turn, increases labor supply and reduces damages to build­ings and equipment. They also may change technology. Energy efficiency policies, for instance, may trigger innovations that lower both energy use and costs. And they can reduce production inefficiencies, such as in the case of a policy that organizes a fishing community to avoid overfishing.

On the other hand, environmental poli­cies can be costly and thus can have a negative economic effect if not designed optimally—leading to layoffs, for example, or forced early retirement of existing physi­cal capital.

While the idea that there are no trade-offs between growth and the environment may be controversial, it is well accepted that specific projects can be win–win and that certain types of policies, such as removing energy subsidies, can be win–win with a proper set of supplementary redis­tributive policies.

What Led to China’s Rapid Economic Growth and Environmental Degradation?

To understand China’s spectacular economic growth and its environmental failures, and to determine how the country can begin to grow more sustainably, it is necessary to understand China’s institutional reward system. China’s governance structure can be characterized by economic decentralization and political centralization. Regional governments are directly respon­sible for, and deeply involved in, developing the economies within their jurisdiction, and these subnational governments carry out most government functions. However, in the political domain, the national govern­ment controls not only ideology and the media but also the personnel matters of subnational governments through its cadre evaluation system.

This system provides government offi­cials, who are motivated by career concerns, with powerful incentives to perform by promoting those with better performance. It also promotes regional competition in economic development and regional experi­ments in economic reforms. Some argue that this is a major reason China experi­enced rapid economic growth.

In this system, performance targets are separated into three categories: targets with veto power, hard/binding targets, and soft/guidance targets. Social stability and the one-child policy had long been targets with veto power, understood to be the most important type of targets. Failure to meet these veto targets results automati­cally in punishment, and poor performance on these targets cannot be compensated by good performance on other targets. Economic growth has long been a hard target, while environmental goals have been soft targets in the past.

As one would expect, government offi­cials respond to this evaluation system by focusing more on economic growth than on environmental protection. Empirical evidence suggests that provincial leaders’ economic performance—measured by GDP growth rate—relative to the national aver­age had a significant impact on the proba­bility of their promotions. There is also some evidence that spending on environmental amenities negatively affects city-level offi­cials’ odds of promotion.

Other institutions than just the cadre evaluation system push government officials to focus on the growth of GDP—especially the growth of energy-intensive and high-emissions industries—instead of environmental protection. One example is China’s fiscal system. About half the tax revenue in China comes from value-added tax, which is directly related to the growth of industry and shared with local govern­ments. In addition, subnational government revenue is not commensurate with the expenditure responsibilities of those regional jurisdictions. According to a 2012 World Bank study, subnational governments are responsible for 80 percent of government expenditure responsibilities but receive only slightly more than 40 percent of tax revenue. Local governments thus have a strong incentive to find additional revenue to finance their expenditures and a very weak incentive to invest in environ­mental protection.

Another such policy is the below-market prices of natural resources, including energy, land, and water, as well as those of inter­est rates. The low prices of natural resources and capital lead to economic growth that is resource and capital intensive.

Implications for China’s Green Growth Strategies

For China to be on a green growth path, it is not sufficient to simply introduce environ­mental and resource policies at the national level; environmental protection has to be emphasized more in the cadre evaluation system. Indeed, as China’s economy has continued to grow and many indicators of its environmental health worsen, environmental protection has become more important in cadre evaluation.

In the 11th Five-Year Plan (2006–2010), several environmental targets became bind­ing for the first time, including a 10 percent reduction in sulfur dioxide emissions and chemical oxygen demand releases, and a 20 percent reduction in energy intensity. Subnational governments took substantial action to meet these hard targets. For example, by the end of 2010, subnational governments had shut down about 70 giga­watts of small, “backward” thermal power plant capacity. The 12th Five-Year Plan (2011–2015) contains more binding envi­ronmental targets, including a 17 percent reduction in carbon intensity.

In December 2013, the Organization Department of the Communist Party of China announced that it would modify the cadre evaluation system. GDP growth should not be the only main criterion in evaluating government officials, the announcement stated, and more weight should be given to environmental protec­tion, resource efficiency, and other social and economic considerations.

"For China to be on a green growth path, environmental protection has to be emphasized more in the cadre evaluation system."

A more nuanced cadre evaluation system would certainly help protect the environ­ment, but as with other multitask principal-agent problems, it still has weaknesses. For example, the binding environmental targets in the 11th Five-Year Plan were met—at least on paper—but they led some local government officials to fake data and take highly inefficient measures.

Since the cadre evaluation system has inherent weaknesses, it will be important to strengthen environmental laws and law enforcement. Chinese legislators have made some progress in this endeavor. In April 2014, the Standing Committee of the National People’s Congress approved major amendments to its Environmental Protec­tion Law, the first since the law was enacted in December 1989. One critical revision replaces the previous one-off limited fine system for pollution violations with a new penalty system, in which the amount of the fine continues to accumulate for each day the violation continues. Another is that nongovernmental organizations can take legal actions against polluters on behalf of the public interest.

Although current efforts have been substantial, they have not matched the scale and complexity of the pollution problem generated by rapid economic growth in China. Many proposals have been put forward to address particular aspects of the air, water, and solid waste pollution problems, including “technology-push” poli­cies and fuel taxes based on environmental damages.

For China’s leaders, green growth is now a necessity. They have started down this path of reform, but the scale of the prob­lems requires greater efforts and some fresh thinking and experimentation. International groups, such as the World Bank and the United Nations, recognize the need for a global network that can address major knowledge gaps in green growth theory and practice. Policy advisers in China and the global environmental community have much to do.