Do industrial pollution activities in China respond to ecological fiscal transfers? Evidence from payments to national key ecological function zones

The policy of payments to National Key Ecological Function Zones (NKEFZs), a type of instrument for Ecological Fiscal Transfers, has been introduced in China. We employed propensity score matching and difference in difference estimation to investigate the effectiveness of this policy on the reduction of industrial pollution. We found evidence that the policy had reduced pollution-intensive activity in the NKEFZs. Meanwhile, implementation of the policy had been selective. First, the downstream NKEFZs with higher opportunity costs had lower efforts to reduce industrial pollution. Because performance-based payment mechanisms neglect opportunity costs, financial stress weakens the efforts to reduce pollution. Secondly, the NKEFZs policy suppresses air-polluting industries but not water-polluting industries. Local governments may reduce only the target pollutant (chemical oxygen demand) while ignoring non-target pollutants. There may be moral hazards under information asymmetry in pollution reduction.