China's stimulus package: How green?

China became the world’s largest CO2 emitter in 2007, due to its heavy reliance on coal-generated power to fuel its economy. Environmental damage and the overuse of resources have been associated with health problems, floods, insufficient access to freshwater in some areas, as well as an increase in the number of endangered species.

To address the environmental concerns of its growing economy, the Chinese government has, in the past, launched a number of initiatives. For example, the country’s development plans foresee a 20%p increase in energy efficiency between 2006 and 2010, and it seems China is well on its way to exceeding these targets---energy intensity, that is the amount of energy needed to generate GDP, fell by 4.2% last year after an earlier decline of 3.7% in 2007. Also in 2008, China’s environmental protection agency was given additional powers and now has rank of a ministry. In the area of renewable and clean energy, China has been very supportive of wind and solar generation, and has for many years pursued hydroelectric power.

The government detailed its economic stimulus plan in March and we can be fairly certain that China is not just placing 'green' plans on the back burner, but is actually devoting larger amounts of money than any other country to environmentally-friendly investments and policies, specifically related to rail transportation, upgrades to the electric grid, and waste and water management.

Railway investments are a big part of the plan. Yet the stimulus forms only one component of China’s plans to spend more than five trillion yuan (£445 billion) overall on constructing more than 16,000 kilometres of rail lines (mainly for transporting passengers) and on railway stock. Rail transportation emits less CO2 and is generally more efficient and environmentally friendly than using trucks and buses which are still popular in China.

The upgrading of the national electric grid, even though it is another substantial part of the stimulus package, is not strictly a new idea. The Chinese government has in the past few years strongly pushed new 'smart grid' technologies that offer better monitoring of user activity and pricing/charging, minimising electricity losses in the system and allowing for better load balancing. In upgrading the electric grid, especially the transmission infrastructure, China is targetting loss reduction and flexibility in the utilisation of multiple, competing energy sources in an interconnected and smart system. Under the stimulus plan, more than 1.1 trillion yuan (£98 billion) has been earmarked for electric grid upgrades.

'Direct' environmental projects, such as improving the waste treatment and water management infrastructure, as well as conservation and other environmental protection areas, are also part of the stimulus plan, and 230 billion yuan (£20 billion) has been devoted to such projects.

There are also other ways in which the stimulus plans of China’s central government will have positive environmental effects. A major restructuring, driven by merger and acquisition activities and the closure of smaller, less efficient plants and mines, is expected in the metals and mining industry. A few deals in the steel sector have already been announced, including one that created the largest listed Chinese steel company—a three-way merger of Tangshan, Handan and Chengde Xinxin. In the electricity generating sector, the National Energy Bureau announced at the end of March that outdated, polluting, coal-fired generation plants with a capacity of up to 200,000 kW will be closed down by the end of this year.

Some 20%p of the stimulus package is earmarked for affordable housing projects and, while not directly 'green' as such, this should also have a potentially positive environmental impact. China adopted its own 'green' building standards in 2007, and may apply these selectively to these housing projects to achieve higher short- and long-term cost efficiencies, as well as resource utilisation efficiency for new buildings.

China’s 'circular economy' law, adopted in 2007 and which has been in effect since the start of this year, has the potential to have a very significant impact, especially for new projects in the metals & mining, petrochemical and construction industries. It includes stricter controls on emissions and waste, promotes the recycling of water and energy efficiency, and forbids the use of oil-fired fuel generators and boilers in favour of natural gas and alternative fuel generators. Special economic incentives have also been reserved for the re-utilisation of mining and agricultural waste and by-products.

Companies in China and their foreign joint venture and technology partners stand mostly to benefit from the 'green' measures implemented by the Chinese government in the stimulus package. Railway equipment companies, steelmakers and construction industry players should all gain from a surge in investments in railroads and railway stock. Similarly, the construction and steel industries will benefit from increased government spending on affordable housing and public infrastructure.

The Chinese government’s push for consolidation, coupled with more stringent environmental and labour compliance supervision in heavy industries such as steelmaking and mining, will probably affect the shareholders of the smallest, least efficient (and most polluting) players. But it will no doubt benefit modern, large-scale players, many of whom are state-owned--through increased market share, a more level playing field for all companies and less pressure from cost competition. Further cost reductions from economies of scale and quality improvements as a result of industry consolidation and increased investment levels should also follow.

In addition, such measures may prove extremely beneficial to these industries in the long run by bringing them closer to international standards in terms of environmental and labour compliance, which--in turn--may lift some international barriers to Chinese exports. This should help to raise the image of Chinese producers abroad, and reduce instances of anti-dumping measures, often initiated in other countries on the grounds of the unfair advantage that Chinese companies have due to minimal compliance costs when compared to their Western counterparts.

With the world’s 'greenest' stimulus package in place, innovation and investment in China stand to accelerate on the same trajectory. We expect the stimulus plans largely to benefit domestic firms, but at least some of the benefits will accrue to foreign firms. Areas to watch are the ones in which Chinese firms do not yet possess sufficient technologies and knowledge. Among Chinese mining firms, one example of such technology is bio-leaching and other advanced methods of efficient extraction of minerals from poor ores and tailings. Deep-level underground mining technologies and the use of IT in mining are also important areas for foreign suppliers to the mining industry to watch and pursue.

This article is republished courtesy of INSEAD Knowledge, INSEAD's thought leadership platform, which features articles and podcasts showcasing the school's leading-edge research. Copyright INSEAD 2009. As one of the world’s leading and largest graduate business schools, INSEAD brings together people, cultures and ideas from around the world to change lives and transform organisations.