Impacts of energy intensity target constraint on elasticity of substitution between production factors in China

Abstract

China has implemented the energy intensity target (EIT) constraint policy to improve its energy efficiency for more than three decades. Producers in China need to consider factor prices, outputs, and EIT constraint while they plan the number of input factors. Therefore, this article brings the EIT into the conditional input demand function of an input factor and assesses the impacts of the elasticity of substitution between different production factors. By building two-factor substitution elasticity models with and without EIT constraints, this paper examines the impacts of EIT constraint on the elasticity of substitution between input factors in both the fossil fuel production sector and the non-fossil-fuel production sector. The main conclusions are, firstly, EIT constraint influences both own-price elasticity of an input factor and cross-price elasticity between different input factors. Secondly, EIT constraint hinders the responses of some input factors to the price changes of other input factors, and changes relationships between some input factors from complementary to substitute, or vice versa. Two policy implications are obtained. First, producers should consider the impacts of EIT constraint on their investment, labor input, energy input, and raw materials purchase and bring these impacts into their business strategies. Second, reducing energy input by changing prices of other production factors will be ineffective under EIT constraint.