An empirical multi-country analysis of the impact of environmental regulations on foreign trade flows

From a trade-theory perspective more stringent environmental regulations give rise to increased costs of production, which result in a depressing influence on exports and a rise of imports. So far, most empirical studies concentrated on the impact of stringent anti-pollution standards on exports only and found no strong evidence for a significant negative influence. In this paper it is argued that such inconclusiveness can be attributed to the type of indicator that has been used to represent strictness of environmental regulations. Several measures of environmental policy stringency are discussed and evaluated against the Polluter Pays Principle. Next, the measures are used in a trade now equation based on bilateral trade flow to investigate a cross-country data set of OECD countries for 1992. Analyses are performed for total trade, for pollution-intensive trade. and for pollution-intensive trade related to non-resource based sectors only. In contrast to previous studies it is found that with an environmental policy measure closely connected to the Polluter Pays Principle. the impact of stricter regulations on both export and import flows is statistically significant and negative. With respect to import flows this result implies the existence of government actions to impede imports. No significant effect of environmental policy stringency on 'dirty' export flows can be found, which can be explained by the fact that most 'dirty' industries are resource based. A significant negative effect results for 'footloose' (non-resource based) activities.