Do stringent environmental regulations really hurt competitiveness? A re-examination of recent evidence using structural gravity with high-dimensional fixed effects

Abstract

The empirical evidence for the so-called pollution haven hypothesis, which predicts that inter-country differences in environmental policy stringency will cause pollution-intensive production to relocate to countries with lax environmental standards, has traditionally been weak. However, in recent years, a large number of studies have reported results in support of the hypothesis. A major drawback of this recent literature is that none of the studies use a theoretically consistent gravity model of trade. The main objective of this paper is to see whether their results hold after having corrected for this shortcoming. In the paper, I analyze sectoral bilateral trade flows for a panel of 31 countries between 1990 and 2006, using a new composite index developed by the OECD to proxy environmental policy stringency. I find that stringent environmental policy does indeed reduce exports of pollution-intensive goods, but that the effect is limited to a smaller subset of manufacturing sectors.