China's manufacturing has the problem of generally low capacity utilization at present, and the use of environmental regulation policy to force enterprises to adjust production and investment to enhance production capacity utilization has important significance. But the existing studies have ignored the transmission mechanism of environmental regulation policy on production capacity utilization and the heterogeneity effect, so it is difficult to put forward targeted and differentiated countermeasures. This paper mainly studies the effect of environmental regulation on production capacity utilization in manufacturing and the specific conduction mechanism, and deeply investigates the heterogeneity effect of environmental regulation on production capacity utilization. Then it tests the heterogeneity of the conduction mechanism. It comes to the results as follows:firstly, environmental regulation plays a significant promotion role in production capacity utilization through following cost effect and innovation compensation effect, and environmental regulation has a positive effect on production capacity utilization mainly through eliminating the production capacity which does not meet the environmental standards and has the limited effect on the increase in production capacity utilization through strengthening the technology innovation to create new market demands; secondly, the increase in the proportion of state-owned enterprises and small-sized enterprises weakens the promotion role of environmental regulation in production capacity utilization, the increase in the proportion of private enterprises and large and medium-sized enterprises promotes the positive effects of environmental regulation on production capacity utilization, the promotion role of environmental regulation in production capacity utilization in the partially heavy pollution industries is stronger, and the following cost effect and innovation compensation effect of environmental regulation are also different under the different property rights, enterprise scale and pollution intensity. The conclusions have enlightenment significance to how to use hard constraints of environmental protection to resolve the excess production capacity and to the reduction in ineffective and low-end supply and the promotion of innovation development strategy in the context of the supply-side structural reform.