The environmental consequences of domestic and foreign investment: Evidence from China

Fixed asset investment (FAI) and foreign indirect investment (FDI) have important influences on economic development and environmental quality. Because environmental performance is related with economic development, FAI and FDI may affect environment indirectly through their impacts on economic growth. In this study, the direct and indirect effects of both FAI and FDI on China's environmental quality are distinguished and separately estimated for the first time with a carefully designed framework of a two-equation model. Because most economic activities and environmental pollutions occur in the urban areas, a panel data of 112 Chinese cities for the period 2002–2015 is utilized. Several spatial factors are also introduced to control for the potential spatial correlations in economic development and pollutant emissions. The estimation results indicate that there exist apparent differences in the environmental effects of FAI and FDI. The direct effects of FAI on SO₂ emissions are significant positive and dominate the negative indirect effects. By contrast, the direct, indirect and total effects of FDI on pollutant emissions are all negative. Therefore, overall speaking, well designed and targeted policies should be formulated to reduce the negative environmental impacts of FAI and to increase the positive influences of FDI on environment. - Highlights: • Influences of domestic and foreign investment on environmental quality in China are investigated. • City-level panel data of fixed asset investment (FAI) and foreign direct investment (FDI) are used. • Spatial correlations in economic development and pollutant emissions are controlled for. • The positive direct effects of FAI on SO₂ emissions dominate the negative indirect effects. • The direct, indirect and total effects of FDI on both pollutant emissions are all negative.