LAUSR

Abstract This study investigates how air pollution affects industrial path creation and industrial dynamics in China. Moving beyond existing literature that pays more attention to environmental effects of industrial development, this paper focuses on how industrial development path changes due to environmental pollution. Using the data from Chinese Customs Trade Statistics (CCTS) which covers the export trade data of prefecture level cities in China during 2002–2006 and 2012 to 2016, this paper probes into the effect of air pollution on industrial dynamics. Econometric model and instrumental variable (IV) regression are used in empirical analysis given the potential endogeneity issue. Results suggest that the interaction term between air pollution and density is negatively related to new industries entry. It means that air pollution can reduce the effect of relatedness on industrial diversification and lead to path breaking. Further, a channel for how air pollution affects industrial dynamics is examined. In order to respond to air pollution, local government conducts environmental regulation to lower the negative influence of air pollution, which can lead to path breaking during industrial diversification process. Finally, this paper seeks to bridge two strands of literature: environmental economic geography and evolutionary economic geography.