1"|"P age" % A Thesis Paper On the URBAN AIR POLLUTION: AN ANALYSIS OF THE ENVIRONMENTAL KUZNETS CURVE IN ASIAN CITIES Submitted by: GATDULA, Valerie B. TOLENTINO, Richmay Anne C. To: Dr. Rosalina Tan Professor In partial fulfillment of the requirements in Economics 171: Economics Research I February 2011 2"|"P age" % INTRODUCTION A. Background of the Problem Sustainable development has been one of the alarming concerns in the twenty-first century. Anderson and Brooks (1996) discus how given the fact that “the supply of most natural resources and environment services” are limited, it is of urgent concern to monitor and control resource usage for one to even hope for continued economic activity in the years to come. Furthermore, the incessant population and per capita growth exacerbates the problem as they are indicative of the continuous growth in economic activity (Anderson & Brooks, 1996). Sustainable development has significant implications on the extent of economic activity in the future. Anderson and Brooks (1996) elaborate saying, “scientific basis supporting the relationship between business activity, resource depletion and the environment has grown stronger in recent years.”After all, economic activity is limited and defined by the state of the environment in which businesses operate, get raw materials from, etc. The call for sustainable development has been even more urgent for Asian countries where majority of economic growth is happening and where two of the most populous countries in the world China and India are located. Anderson and Brooks (1996) note the implications of having the two most populous cities of the world in Asia the exponential increase in pollution levels given the magnitude of economic activity in the area, as well as the alarming damage it may cause to human beings given the high population level in the region. In spite of the magnitude of importance of studying and determining the mechanisms between income and the environment in Asia, there have been limited studies on the subject matter. As discussed during an interview with Ms. May Ajero of Clean-Air initiative for Asian Countries (CAI-ASIA), there is no quantitative study yet which analyzes the empirical relationship between income and air pollution levels (2010). 3"|"P age" % B. Objective of the Research In line with the importance of establishing or disproving the income-environment relationship in Asia, this paper will conduct a regression analysis of three air pollutants (PM- 10, SO2, and NO2) on per capita income through the Environmental Kuznets Curve (EKC) equation. The regression will be made for a panel data of seven Asian countries observed for a period of eight years. The contribution of this paper is the creation of a scientific relationship between income and pollution backed by empirical data. This is not only of academic importance; rather, it brings significant policy implications. After all, research studies are one of the bases of policies made. For instance, observations of the EKC in certain countries lead to the assumption that environment depletion will eventually subside as income increases. This perspective is highly problematic as it automatically assumes that the environment becomes better as income increases. Furthermore, one of the criticisms of the EKC is that it has an anti-environmentalist tone because it downplays the urgency of the environment problem and provides an escape route in the explanation that with higher income levels, pollution will inevitably decrease (Escobar, 2011). In line with the results of the regression, this study will also discuss possible reasons for the relationship as well as recommend policies for the care of the environment. 4"|"P age" % C. Statement of the Hypothesis According to the Environmental Kuznets Curve (EKC): At low levels of development measured by per capita GDP, environment pollution will increase. As a country reaches a certain level of GDP, environmental pollution tends to decrease as income increases. The Environmental Kuznets Curve (EKC) basically describes the relationship between the concentrations of air pollution in the country relative to its gross national income per capita. It is stated that as a country starts to develop (as depicted by the increase of GNP/capita), air pollution level rises due to the increase in production of commodities. At a certain income per capita, pollution levels begin to decrease due the country being able to invest in more efficient technologies and production methods. 5"|"P age" % D. Methodology Air pollution measurements for seven Asian countries (China, Hong Kong, India, Japan, South Korea, Singapore and Thailand) over eight years (1998-2005) were obtained through CAI-ASIA. There were three air pollutants observed: PM-10, SO2 and NO2. National income and population levels used to compute for income per capita were obtained from the World Bank database. Population density, industrialization level, R&D expenditure, Gross capital formation and road sector energy consumption data were obtained from the World Bank database. The pollutants were regressed on the of income per capita (its square and cubic forms), 3-year lag GDP per capita (its square and cubic), population density, industrialization level, R&D expenditure, gross capital formation and road sector energy consumption levels of the seven countries for eight years. The regression equation used was the Grossman and Krueger EKC equation. Panel regression was conducted while holding for fixed effects to control for time-constant factors that affect Y. However, as the cubic coefficients are observed to be insignificant, they are dropped altogether and analysis focuses on the squared form of the equation. 6"|"P age" % E. Scope and Limitations The study will contribute to the field of both economic and environment study as it will provide empirical basis to support or negate the EKC phenomenon for Asian countries. The empirical study will result in a quantitative association between income and environment pollution levels, particularly the relationship of income with three widely monitored air pollutants: PM-10, SO2 and NO2. The study will also look into the effect of other variables such as population density, gross capital formation, road sector energy consumption and other variables which may significantly affect pollution levels. Furthermore, the study is made for pollution levels with a span of eight years, resulting in a larger data base and more strongly based regression results. However, the study will not analyze the possible reasons for the evolution of pollution levels. It will not conduct an econometric study of pollution levels on a wide array of non- income variables as it first needs to establish the soundness of the EKC equation for the simple per capita income. Hence, it will not be able to determine an empirically based relationship between variables such as education, literacy, policy applications, etc. on pollution levels. 7"|"P age" % II. REVIEW OF RELATED LITERATURE A. Theoretical According to Bruvoll and Medin (2002), the Environmental Kuznets Curve (EKC) was postulated due to the increasing concern on the relationship between economic growth and the environment (i.e., increase air, water and land pollution, etc). The EKC describes the relationship between the concentrations of pollution to a country’s income per capita; as a country starts to develop, air pollution level rise. However, after a certain income per capita, pollution levels begin to decrease as the country is able to invest in more efficient technologies and production methods. Figure 1: Environmental Kuznets Curve having an inverted-U shape. Shows the relationship of air pollution relative to the level of development of a country. (Peters & Murray, 2006) The EKC is associated with the development stages of a country. During the agricultural stage, a country has low levels of income per capita at the same time it also has low levels of pollution. As it approaches the industrial stage, there is an increase in the production of goods and as such increase in air pollution. This is mainly brought about by factory outputs and the use of excessive fossil fuel to run the machines for production. An improvement in air quality begins to follow as a country stars to invest in technology. This is clearly depicted by the diagram below. As one can see, the quality of air pollution depends on the level of income per capita. Furthermore, based on the theory it follows an inverted-U shape. 8"|"P age" % Stage 1 Air pollution concentration Stage 2 Start of industrial development Initiation of emissions control Stabilization of air quality Stage 3 Stage 4 Improvement of air quality High Technology applied Low Level of development High Development of air pollution problems in cities according to development status WHO Guideline or national standard Stage 0 %Figure 2: Relationship between air pollution problems in cities and the level of development. As a city experiences development, the air pollution problems in the city increase rapidly, before stabilizing and declining as air pollution controls are implemented (Peters & Murray, 2006) There are three main economists suggesting the relationship between income and the environment as well as the reasons for the inverted-U shape of the model: Grossman (1995), Borghesi (1999) and (Yandle et al., 2004). Grossman (1995) offers three main explanations as to how exactly income affects the environment. First, is the ‘scale effect of income on the ‘environment’. As more outputs are produced, more inputs (natural resources included) are required and more wastes and emissions as by-products are created during the process. Thus, resulting in the use of more natural resources to provide inputs and at the same time more polluting by-products leading to the degradation of the environment. Second, is the technology composition effect. This refers to the technology as a percent of GDP. A higher technology composition effect improves the state of the environment as there are more efficient means of manufacturing and producing goods. A higher technology composition is assumed to imply more sophisticated end efficient technology that is beneficial for the environment. Last, is the technique effect. Technique pertains to the research and development (R&D) of a country. Countries with better techniques experience improving environment conditions as R&D enables the country to discover means and ways of doing things that are more efficient. That is, technique leads to the substitution of crude production processes to more efficient and cleaner ones. The first 9"|"P age" % effect demonstrates the negative effect of development on the environment, happening during the early stages. On the other hand, the last two shows how the environment would improve as brought about by more economic progress. Furthermore, Borghesi (1999) suggested that market signals or the ‘existence of an endogenous self-regulatory market mechanism for the use of natural resources’ may also explain the shape of the EKC. According to him, during the early stages of development there is heavy exploitation of natural resources leading to a reduction of natural capital. However, at a certain time, there comes an increase in the price of natural resources. This leads to a reduction in its exploitation. Furthermore, there is an ‘accelerated shift towards less resource- intensive technologies’. In addition, (Yandle et al., 2004) offers another reason as to why the EKC is shaped, as it is. According to his reasoning, environment quality is a luxury good at higher levels of income. This indicates that ‘the income elasticity of demand for environmental resources varies with the level of income’. As a country is at its early stages of development, the income elasticity for such is less than one. However, after a certain threshold the income elasticity becomes greater than one. That is, the change in demand for high quality environment becomes larger than the change in income. The increasing demand for good quality environment results in an improvement in the environment. Regarding the limitations of the EKC, Stern (2004) offers a comprehensive study regarding of its theoretical confines. First, there is ‘no feedback from environmental damage to economic production given that income is given as an exogenous variable”. It is immediately assumed that any economic activity done by the country is sustained by the environment. This might seem problematic because environmental damage might reduce economic activity; thus, potentially stopping economic growth and development. ‘If higher levels of economic activity are not sustainable, attempting to grow fast during the early stages 10"|"P age" % of development, when environmental degradation is rising, may prove to be counterproductive’. Second, the decrease in some air pollutant levels as brought about by greater investment in technology might only mean a shift in the kind of air pollutant now being produced. In other words, although specific air pollutant levels might be decreasing, the aggregate might still be the same or even worse. Third, the effects of trade are not considered in the theory. According to the Hecksher-Ohlin trade theory, under free trade countries would tend to specialize on economic activities that the country has abundant resource on. Thus, developed countries would concentrate on labor and service production while developing countries would put emphasis on human capital and manufactured capital-intensive activities. As such, this might explain for the further degradation of environment of the latter, while improvement for the former. Lastly, stringent environmental policies of the developed countries might lead to polluting activities gravitating towards developing countries. As a result, ‘these effects would exaggerate any apparent decline in pollution intensity with rising income along the EKC’. [...]... used: PM10, SO2 and NO2 Taking the logarithm of the pollutant results in a slightly different interpretation of results -the coefficient would be indicative of the effect of the change in the independent variable on the change in the pollutant A positive coefficient means that an increase in the rate of change of per capita GDP results in a similar increase in the rate of change of pollutant levels This... development, Asian cities are implementing effective air pollution control measures Instead of the inverted U curve synonymous with the typical EKC curve, the graphs indicate the emergence of an “L-shape” EKC for air pollutants in Asian cities It is proposed that this is due to lowering of income turning points and the shortening of the stages of economic development accompanying deteriorating air quality Furthermore,... particulate matter (In 2003 dollars, the figures would be about $15,200 and $16,900.) Both the figures are significantly higher than the estimates from Grossman and Krueger Seldon and Song attribute the higher turning points to the use of aggregate air- quality data, which includes readings from both rural and urban areas, rather than the urban data used by Grossman and Krueger The turning-point for environmental. .. However, Grossman and Krueger noted that the addition of these variables “reduce residual variance and make the coefficients more precise.” Lastly, the Grossman and Krueger included the “cubic of average GDP per capita in the preceding three years to proxy for the effect of permanent income, and because past income is likely to be a relevant determinant of current environmental standards” (Grossman and Kruegar,... Empirical In an empirical analyses of the EKC, two topics are of main interest: first, the calculation of the threshold where environmental quality improves with rising per capita income and second, whether a given indicator of environmental degradation displays an inverted- U relationship in association with rising levels of per capita income In terms of the calculated threshold, studies done by Grossman and... high income levels, the positive sign of Lagged_GDP_2 for PM-10 is interpreted as resulting in an increase in pollution levels in the long-run This results in a U-shaped curve, instead of the inverse-U defined by the EKC This may be explained by the fact that the low-income countries (China, India and Thailand) are not primarily agricultural economies with low level of pollution On the contrary, China,... One of the most prominent econometric models formulated to quantify the Environmental Kuznets Curve (EKC) is that of Grossman and Krueger’s (1995) The theoretical model states that at the low levels of per capita income, where development and industrialization is intensive, one can expect rising pollution levels The rapid depletion of the environment at low income levels is a result of the increasing... This allows for the possibility that a downturn in pollution (at the peak of the inverted U) can be followed by a later upturn, that is, a reversal of the tendency for pollution levels to decline with further increases in per capita income These findings imply that beyond some point, high-income levels, rather than being conducive to further improvement in air and water quality, can have the opposite... Levinson and Wilson (2002), Carson (2009), etc do not agree with the EKC model due to the limitations of the theory and the assumptions incorporated in it In terms of the shape of the EKC, debates and further studies have shown other variations from the inverted-U shape originally proposed: cubic function and L-shaped curves Torras and Boyce (1998) suggested that instead of a quadratic function, the. .. quality Furthermore, it is a possible that the “L-shape” EKC is due to the low number of countries in Asia experiencing the earliest stages of economic development 14 | P a g e     and consequential high levels of urban air pollution This could result in the majority of countries being near the EKC turning points or in the descending curve, creating the appearance of an “L-shape” (Peters & Murray, 2006) . effect of the change in the independent variable on the change in the pollutant. A positive coefficient means that an increase in the rate of change of per. 1"|"P age" % A Thesis Paper On the URBAN AIR POLLUTION: AN ANALYSIS OF THE ENVIRONMENTAL KUZNETS CURVE IN ASIAN CITIES