Whether environmental policy dampens or enhances employment is a long-standing debate. By employing a difference-in-difference method, we use the most comprehensive firm-level database in China to study the effect of Two Control Zones (TCZ) policy on firms’ employment. The TCZ policy was implemented in 1998 to reduce SO2 emissions and the regulated area accounts for more than half of China’s GDP, making it a particularly important environmental policy to study in the context of its impacts on employment.

We present three sets of results. Firstly, we find that firms in regulated prefectures have approximately 10.6% additional employment than firms located in non-regulated prefectures and this positive policy effect decreases by roughly 4.2% in relatively dirty sectors compared to relatively clean sectors. Secondly, there are important distributional implications of the policy and its effects. Workers in relatively dirty sectors are more likely to be male, have lower education, and have lower wage. Thirdly, the positive policy impact on state-owned firms and older firms is 9.8% and 6.0% less than on non-state-owned firms and younger firms, respectively. It indicates that the policy simulates more employment growth in non-state-owned and younger firms.