Unintended effects of environmental policy in a production network perspective

Against the backdrop of increasingly severe environmental challenges, environmental regulation has become a critical instrument for balancing economic development and ecological protection. As the division of labor deepens and production networks grow increasingly interconnected, the effects of environmental regulation can propagate through these networks, potentially generating unintended consequences. This paper takes the binding environmental regulation implemented during China's 11th Five-Year Plan period as the institutional setting, focusing on sulfur dioxide emissions, to examine how environmental regulation affects the pollution emissions of connected firms through the production network and to identify the underlying mechanisms. The findings reveal that environmental regulation increases pollution emissions of connected firms via transmission through the production network, a result that remains robust after a series of robustness checks. Mechanism analysis shows that this effect operates mainly through “cost transmission-R&D crowding out”, “technological weakening”, and “corporate adaptive adjustments”. Heterogeneity analysis indicates that the unintended pollution-increasing effect is more pronounced among firms that are smaller in scale, have weaker technological absorptive capacity, or have larger export scales. This paper provides empirical evidence for understanding the unintended effects of environmental regulation and offers important insights for optimizing regulatory design and promoting coordinated green development along industrial chains.