Environmental regulation, abatement strategies, and industrial concentration: Theory and evidence from China

Understanding the heterogeneous responses of firms to environmental regulations is crucial for designing policies that balance ecological goals with industrial resilience, especially in the context of China's transition to high-quality development. This study addresses a critical gap by investigating how such regulations reshape industrial concentration through divergent firm-level abatement strategies. Theoretically, we integrate environmental regulation into a heterogeneous firm model based on Melitz (2003) to demonstrate that firms' abatement strategic choices–technological governance versus production curtailment–serve as a fundamental mechanism for structural transformation. Empirically, we exploit the binding ammonia nitrogen reduction targets introduced during China's 12th Five-Year Plan as a quasi-natural experiment. Applying a Difference-in-Differences framework and addressing potential endogeneity through a two-stage least squares approach with geographical slope as an instrumental variable, we find that while regulations effectively curtail aggregate emissions, they trigger a significant behavioral dichotomy. Large firms predominantly achieve compliance through a proactive technological governance channel, manifesting a Porter effect, whereas small firms rely heavily on a defensive output reduction channel, leading to market share erosion. This asymmetric impact ultimately catalyzes industrial concentration. Finally, our findings suggest that environmental policies act as a structural lever, necessitating a more nuanced, size-dependent regulatory design to balance ecological targets with industrial resilience.