When Everyone Loses: Does Air Pollution Create ‘Spurious Equality’?

This paper examines how air pollution affects the distribution of labor income within firms. We build a within-firm incentive model and show that air pollution, treated as an exogenous shock, reduces production efficiency and increases operating uncertainty. In response, firms compress both employee and executive compensation. Because executive pay carries a larger weight on performance- and equity-based components and is therefore more sensitive to profit volatility, it declines by more, mechanically narrowing within-firm pay dispersion. At the same time, rank-and-file wages display downward rigidity. The result is a “synchronized decline with sharper cuts at the top,” a form of spurious equality. Using 2014–2022 data on non-financial A-share listed firms in China, we find that a 1% increase in air pollution is associated with a 0.37% average decline in labor income. Effects are stronger in labor-intensive firms and in firms with weaker unions. Two-stage least squares estimates indicate real consequences: talent outflows and reduced innovation. By linking air quality to wage setting, human capital, and innovation, our results reveal a sustainability channel through which pollution undermines decent work and inclusive growth—issues of global relevance for urban economies. The mechanisms we document are likely to generalize beyond China and inform integrated policies that combine environmental regulation with labor-market and innovation policy to support a just and sustainable transition.