Environmental Regulation, Cost Shifting,and Firms’ Environmental InvestmentChoice: Evidence from China

As rational economic entities, firms may behave myopically if the cost of environmental investment outweighs the benefits.Moreover, in emerging economies with imperfect institutional environments, such as China, firms may shift the cost of environmental investment to customers, for example, by increasing product prices.Therefore, it is crucial to examine firms' environmental investment decisions and cost-shifting strategies under environmental regulation.This study examines the impact of environmental regulation on firms' environmental investment choices and whether this impact varies due to differences in cost-shifting ability.Using a sample of heavily polluting listed firms in China from 2012 to 2021, we find that when faced with environmental regulation, firms are more likely to choose expense environmental investment rather than capital environmental investment.This phenomenon is particularly pronounced for firms with stronger cost-shifting ability.Our further research shows that firms with stronger cost-shifting ability can shift the costs of environmental investment to customers by increasing product prices.This study suggests that in emerging markets such as China with an unfavorable institutional environment, firms' environmental investment may only be aimed at meeting regulatory requirements in the short term.It is possible that the costs of environmental investment are borne by the firm's customers.