Environmental consequences of a Norwegian-Chinese Free Trade Agreement Report 2008-148

China and Norway are currently negotiating a Free Trade Agreement that will facilitate further liberalisation of trade and investment between the countries. We analyse environmental consequences of the Free Trade Agreement. Focusing on CO2 emissions we find that the Agreement on balance is likely to have slightly higher negative than positive environmental impacts. We build this conclusion on the likely increase in transport, and on other indications. Negative impacts may be alleviated by encouraging sustainable production and consumption practices. Positive impacts should be enhanced by encouraging sustainable trade. Besides, the Free Trade Agreement should acknowledge the barriers and opportunities for vendors of environmental technology. Unknown environmental consequences of a Free Trade Agreement between China and Norway Trade between countries brings many benefits. Trade expands the choices of consumers and let them access goods that either are not available domestically or are superior to domestic goods. Trade also expands the choices of producers and allows them to purchase intermediate products that are cheaper and better than those found at home. If trade had not brought benefits, people would not have traded. The very existence of trade goes to prove that trade is beneficial for the trading partners. Trade brings other benefits as well. In an interdependent world trade aligns the interests of trading partners in preserving the benefits of trade, which has important political implications. Trade also brings cultural stimulus as well as language skills. Yet, in some areas it is unclear whether trade brings benefits or not. One important and ambiguous area is the environment. Trade involves transportation, sometimes over vast distances, and it is clear that increased transportation means increased environmental emissions, e.g., emissions of CO2. The problem is exacerbated by the fact that the cost of transportation is too low: Sea and air transport are for practical purposes exempt from regulation of, e.g., CO2. Trade may also increase emissions if goods that become available for consumers because of trade are environmentally inferior to domestic alternatives. This problem is accentuated when one or both of the countries involved in trade have lax environmental regulation. Hence, those who trade are not informed through price or law of the full cost of their activities. At the same time however, trade opens up the market for manufacturers of environmental technologies interested in selling their products internationally, and for countries interested in adopting environmental friendly technologies. One pair of countries that meets both the benefits of trade and the ambiguous environmental consequence is China and Norway. Bilateral trade between China and Norway has been increasing rapidly in recent years. For instance, according to Norwegian statistics imports of goods from China quadrupled in just nine years 1999-2007. Exports from Norway to China also showed a large increase and almost tripled 1999-2006. Both countries want to maintain progress in their trade relations. The countries have recently initiated negotiations on a Free Trade Agreement (FTA). The intention is to secure recent advancements in trade that have been negotiated in the WTO, and proceed to the Econ Pöyry Environmental consequences of a Norwegian-Chinese Free Trade Agreement 2 next stage in trade relations by means of further tariff reductions, facilitation of foreign direct investment, regulation of work permits etc. While acknowledging the benefits of improved trade relations, stakeholders in Norway and China are concerned that the environmental consequences, particular for CO2, may be negative. It is seen as important to bring forward knowledge about the environmental consequences of the FTA in order to prepare safeguards in domestic policies and in the negotiation treaty process itself. Based on this concern; We analyze consequences of the Free Trade Agreement on the environment. In particular, we have in mind CO2 emissions. The analysis has been carried out on behalf of the Norwegian Ministry of Trade and Industry by Econ Pöyry in association with Renmin University of China, Policy Research Center for Environment and Economy under Ministry of Environmental Protection, China; and Development Research Center under State Council, China. Focus on fertilizer and cotton textiles Two of the most important traded goods between Norway and China are fertilizer export from Norway and cotton textiles export from China. In addition, these are goods with environmental properties for which data exist. Since FTA negotiations are still ongoing, we do not know the impact of the FTA on trade of fertilizer and cotton textiles. But it is a fair speculation that trade in both will receive a boost from the FTA, and hence increase. Other goods and services may of course also receive a boost, but we choose fertilizer and cotton textiles as representative examples. Impacts on CO2 could be both positive and negative Previous research (e.g. Fæhn & Holmøy, 2001; Bruvoll & Fæhn, 2006; Reinvang & Peters, 2008) has pointed out that since China exports a vast array of goods to Norway, Norwegian consumption in a sense lives off Chinese emissions. Yet trade is of course a two-way phenomenon and there are emissions embodied in Norwegian exports as well. Besides, there is a fundamental difference between the current pattern of trade, on the one hand, and the impact of policy (here FTA) on this pattern of trade. It is seldom straightforward to use one to make inferences about the other. In principle it is not too complicated to analyze the environmental impacts of increased trade between two countries. It is helpful to begin by considering impacts if consumption in both countries is unaffected by trade. Under this assumption trade means a switch in the location of production, e.g., from Norway to China. The impact on the environment is a consequence of the transport needed to carry trade. Besides, there is an impact on the environment if the technology for production differs between the countries. A third impact arises from the fact that trade cannot be unbalanced over time: The trade stream from China to Norway (say) should sooner or later be balanced by a corresponding trade stream from Norway to China. The environmental impact of the second trade stream also depends on transportation and on any differences in technology. Econ Pöyry Environmental consequences of a Norwegian-Chinese Free Trade Agreement 3 A fourth and final impact arises if and when consumption is not constant in both countries: It is well known that lowering trade barriers increases economic efficiency and eventually leads to increased scale of production. This increase in the scale of production has independent environmental impacts. Our analysis captures the impacts of trade on the environment through two complementary analyses. We apply a macroeconomic model and an extended carbon footprint analysis. The message from both modes of analysis is that the impacts of the FTA are likely to be moderate, but that negative impacts may be larger than positive. The macroeconomic analysis indicates that impacts are moderate As an example of our macroeconomic analysis, consider the case of increased textile exports from China. The analysis finds that per million Yuan in increased exports Chinese CO2 emissions increase 7 tons (Table A). Given current textile and apparel export to Norway of about six billion NOK (Statistics Norway, 2008) and a rate of exchange of 1.1 the emissions in China if exports double are only about 46,000 tons of CO2. This very moderate amount begs the question of why impacts are so small. We can eliminate two possible explanations. One explanation would be that the analysis did not include emissions from the production of textiles and apparel. But the analysis does include such emissions, which primarily are related to energy consumption. The emissions primarily from energy consumption in the textile and apparel sector amounts to 22 tons per million Yuan. A second explanation would be that the analysis did not include the embodied impact, namely emissions from the production of inputs to the textile and apparel industry. But the analysis does include the embodied impact. Including it increases total emissions to 207 tons per million Yuan. Table A Impact of increasing textile & apparel exports from China to Norway Pollutant Direct impact Embodied impact Economy-wide impact CO2 22 207 7 Note: Unit is ton per million Yuan The explanation for the huge difference between 207 tons in embodied impact and 7 tons in economy-wide impact lies in the fact that higher production in one industry in China (in this case textile and apparel) is modified by some other industries having to contract. In other words, the train of consequences set in motion when an industry expands, which eventually leads to 207 tons of impact, is counteracted by a similar train in the opposite direction. Why? The reason, as we analyse it, is that China, despite its vast size and agricultural labour surplus has a limited stock of labour and capital resources to use for production. Hence one sector cannot simply expand without consequences for other sectors. The net impact on CO2 is mainly the difference between higher production in textile&apparel, and lower production in other sectors. The contracting sectors are almost as dirty in terms of CO2 as the textile and apparel sector is. Hence their embodied emissions are almost as large and the impacts of expansion in some industries and contraction in others tend to cancel. We also note that the textile and apparel industry is not the worst industry in terms of CO2. It has greater problems in terms of water pollution. Econ Pöyry Environmental consequences of a Norwegian-Chinese Free Trade Agreement 4 This analysis of increased exports of textiles and apparel from China does