China's development is coming at a steep price, as the air in some Chinese cities is so pollution-fouled that it looks like the inside of a chimney. While we here in the U.S. are fond of monikers that equate minor inconvenience with the end of the world, there's no hyperbole in China's Airpocalypse. The public health consequences of all that filth in the air are staggering: Research attributes more than 1 million premature deaths annually to China's industrial haze.

Source: Bobak, Wikimedia Commons.

A big problem warrants a big solution
While Chinese authorities initially went to great pains to deny this problem, there seems to have been a change of heart recently at the highest echelons. This year, the government began requiring 15,000 factories to publicly report air emissions and water discharges in real time, and forced some factories to close temporarily in the areas of greatest air stress.

Last November, in what Scientific American declared the biggest environmental news story of 2013, the city of Beijing made sweeping changes to car ownership rules. Beijing cut new car registration caps by 37.5%, limited total cars permitted in the city to 6 million (Beijing is already at 5.4 million), and established a requirement that 40% of new vehicles be "new-energy vehicles," which includes hybrids and electric vehicles.

Nationwide, China has set a target to have 5 million new-energy vehicles on the road by 2020. The country is already lagging behind this target, so just this week, the government announced that it will sustain a subsidy program for these vehicles at a higher level than had been previously announced. Shares of Chinese electric carmaker BYD (BYDDY 2.01%) rose immediately following the announcement.

Of course, these initiatives will do precious little to curb the smog so long as China's electricity generation is 70% coal-based, but the government is getting aggressive there, too.

Colossal opportunity
All of this adds up to a massive opportunity for electric vehicles, or EVs. Tesla Motors (TSLA 12.06%) has taken notice. Just this month, Tesla launched its Model S in China. The company set the Chinese price very close to what it charges in the U.S., which could prove to have been a very wise move. There's a trend among luxury automakers to jack up their prices in developing markets. Tesla's choice not to do that in China earned the company high praise from Chinese observers, which can only be good for its brand.

Tesla has already opened a flagship store in Beijing, and it aims to have 10 more locations in China by year's end. The company hopes the Chinese market will generate a 35% increase in its 2014 sales.

The vagaries of the Chinese EV market are in Tesla's favor. So far, there has been precious little consumer interest, and EVs accounted for just 0.1% of total Chinese auto sales in 2013. There are a variety of reasons for this.

1. Chinese consumers are wary of domestic manufacturers when it comes to new technologies, preferring foreign brands. Put a point in the Tesla column.

2. China's EV charging station infrastructure is sorely underdeveloped, creating an opportunity for Tesla to be a part of that development.

3. Tesla really has no competition in the high-end EV market, since domestic manufacturers like BYD are going for the mid-tier segment. Because of this, it also doesn't really matter that Tesla, as a foreign company, isn't eligible for the government subsidies I mentioned earlier. Such subsidies have little effect at the high end of a market.

4. The Chinese government has created a serious demand driver for EVs in the form of a lottery system for license plates. The lottery is aimed at limiting the number of gas-guzzlers on the road. Right now, the chances that any single car buyer will win the license-plate lottery is a minuscule 0.9%. But if they're applying for the separate, new-energy vehicle lottery, that chance stands currently at 100%. Practically speaking, then, if a Chinese consumer wants a car and doesn't want to wait an eternity, that person kind of has to buy an EV or a hybrid.

Take all that together, and Tesla's prospects in China look phenomenally good, at least right now. The company will have a harder time if it decides to chase the lower end of the market with a cheaper model, but that's not on the horizon right now. For the time being, the Chinese market is Tesla's to lose.