The impact of FDI on firms’ pollution emissions: Evidence from China

Given the intensifying global discourse on the environmental impacts of foreign direct investment (FDI) in developing countries, this paper employs the Difference-in-Differences (DID) method to examine the impact of FDI liberalization on firms’ pollution emissions. Using firm-level panel data from 1998 to 2007, aligned with the 2002 Catalogue for the Guidance of Foreign Investment Industries, our study reveals that FDI liberalization significantly reduces firms’ pollution emissions. This reduction operates through two primary channels: the scale effect, where increased operational scale and shared costs of pollution control equipment lead to lower emissions; and the technology spillover effect, which enhances management efficiency, boosts R&D investments, influences new product development, and narrows technological gaps. Furthermore, our heterogeneity analysis indicates that these effects are more pronounced among firms with higher absorptive capacity, foreign-invested firms, and those with elevated pollution levels. These results provide robust support for the Pollution Halo Hypothesis (PHH) within the context of developing countries. Our findings suggest that promoting FDI liberalization is a crucial strategy for developing countries to achieve the dual goals of economic growth and environmental sustainability. The study underscores the importance of facilitating technology transfer and enhancing firms’ capacity to absorb external innovations.