Did Carbon Emission Trade Improve Resource Misallocation? Evidence from China

Chinese Emissions Trading Scheme (ETS) has been a crucial policy for China, a major manufacturing and carbon-emitting country, in achieving its “carbon neutrality” goals and sustainable development. This paper examines the performance of the ETS in China through the perspective of resource misallocation, and to find out whether and how China’s ETS works cost-effectively. Using Propensity Score Matching and the Difference-in-Differences (PSM-DID) method, this paper empirically investigates the relationship between China’s ETS and resource misallocation. The results show that: (a) the capital misallocation in ETS pilot areas is higher than other areas, while the labor misallocation in ETS pilot areas is lower than other areas. (b) The estimation results of PSM-DiD show that the ETS in China aggravated the capital misallocation, while it significantly improved the labor misallocation. The post-treatment test shows that the aggravation of the capital misallocation may fade with time, and the improvement of labor misallocation remains unchanged. (c) The proxy variable “state-owned” did significantly improve both capital and labor misallocation, indicating that the ETS in China worked partly and effectively as a “command-and-control” instrument. All the robustness tests are constructed, proving that the main results remain stable and reliable. This paper may provide some marginal contributions to the ever-growing empirical literature about the policy effects and mechanism of the carbon emission policies. These results prove that although the ETS is theoretically considered to be a market-oriented and cost-effective instrument, the supplementary policies are still essential and effective for ETS. These results also show that it may require a combination of diversified policies to reduce carbon emissions while maintaining sustainable economic growth.