Tourism Economics
Chapter 2
TRM 490
PROF. ZHOU
Chapter 2: Economics as Applied
to Tourism
• Major Economic Theories
– Adam Smith: concepts of supply and demand,
productivity growth over time, division of labor and
specialization for productivity
– T.B. Say: Say’s Law: the economy as a whole
generates exactly the right amount of income to allow
people to pay for the sale of all the goods that have
been produced
– John M. Keynes: increased government spending in
the economy is necessary to support struggling
economies.
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• Reagan’s supply-side economic policy
– Government goes to debt
– Cut taxes to spur investment and buying
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• Economics defined:
– The study of the choices people make in using their
scarce resources to meet their needs and wants.
• Economic choices
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What goods and services should be produced
How they should be produced
Who should do which jobs
For whom the results of economic activity should be
made available.
– These choices are made because of scarcity.
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• Factors of production:
– Inputs of labor, capital, natural resources
• Opportunity cost:
– Productive resources that are used to satisfy one want can’t be
used to satisfy another at the same time
– Production of any good or service entails forgoing the
opportunity to produce something else in stead.
– In economic terms, everything has an opportunity cost
– The opportunity cost is its cost in terms of the forgone
opportunity to pursue the best possible alternative activity with
the same time or resource.
– Care must be taken when measuring the cost as money: not all
sacrificed opportunities take the form of money.
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• Supply and demand:
– The law of supply and demand
• The law of demand states that an inverse
relationship exists between the price of a good or
service and the quantity of the good or service that
buyer demand, other things being equal. (see
figure2-1, p29)
• Other factors: competition, other related business
activities (airline price increase, for example),
consumer’s disposable income, popularity of the
destination or service and the public’s confidence
about the future economy. See figure 2-2,p29
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• The law of supply
– It states that a direct relationship exist
between the price of a good or service and
the quantity of good or service that producers
supply, other things being equal. (see figure
2-3, p31)
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• Equilibrium Point
– The price at which the quantity demanded equals the
quantity supplied
– The equilibrium of supply and demand is stationary in
the sense that once the equilibrium price is reached, it
tends to remain the same as long as either supply nor
demand shifts.
– When the price is below equilibrium, the quantity
demanded exceeds the quantity supplied, buyers
offer higher prices and vice versa.
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• Supply and Demand of tourism products
– Hotel: it takes longer time to build and supply can
exceed demand or vise versa
– Restaurants: over supply due to easy entry
– Airlines: fierce competition with price wars—a
complicated picture
– Cruise lines: doing well due to marketing
– Rental cars: supply can be more easily adjusted.
– Travel agencies: over supply due to easy entry.
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• Factors influencing supply and demand
– On one hand, there is a relationship—a change in
one results in a change in the other
– On the other hand, the relationship is heavily
influenced by other factors, mainly, marketing efforts
and skills and human motivation
– Marketing efforts and skills: matching the products
and services to the needs and wants of the
consumers; the same hamburger sold with different
prices and demand.
– Human motivation: conspicuous consumption by
Thorstein Veblen (fig 2-5, p35): the practice of
purchasing goods or services because of the status
they might bring (status seekers)
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• Economists like to classify goods and services into those
that are preferred and those that are non-preferred.
• Travel is seen as a “preferred superior service” in that
more is undertaken as incomes rises
• Elasticity of demand for tourism
– Elasticity: sensitive to price changes or the willingness to pay
– Tourism elastic or inelastic? Depending on the affluence of the
traveler and the reason for the trip.
– TRs (total revenues: are equal to the price (P) of the good or
service times the total quantity sold (Q).
– So the concept of the price elasticity is very important to the
suppliers of the tourism products and services
– If the price elasticity is known, a supplier can increase the TRs
by making adjustment to the price of the product
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• Elasticity of Demand for Tourism
– Elasticity (sensitive to price change) of tourism demand varies
considerably and depends partly on the affluence of the traveler
and the reason for the trip.
– Elasticity is also about the degree to which the consumers are
willing to pay for certain product or the willingness to pay
– Price elasticities are important for the suppliers of the tourism
products and services, since they can have an impact on their
total revenues (TRs of sellers in a market are equal to the price
(P) of the good or service times the total quantity sold Q )
– If the price elasticity is known, a tourism product supplier can
increase total revenues by making an appropriate adjustment to
the price of the product.
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• Factors (determinants) influencing price
elasticity
– Availability of equivalent substitute products
– The relative importance of the product in a
spending budget
– The amount of time available to adjust to the
price change
– The status of the product as a necessity or
luxury
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• Utility of tourism consumption
– The demand for tourism is influenced by the
economic concept of utility: the benefit or
satisfaction that a person gets from the
consumption of a good or service
– The concept of Utility is an abstract concept
such as the concept of travel experience
– Attempts have been made to quantify the
concept of utility (see page 36-37 for
examples)
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• Total utility: the total satisfaction that a person gets from
the consumption of goods and services.
– It is limited by the amount of disposable income available, the
price of the desired goods and services, and in many cases, the
time available to consume the desired products
• Marginal utility: the change in total utility resulting from a
one-unit increase in the quantity of a good or service
consumed.
• The principle of diminishing marginal utility: there may be
a diminishing satisfaction per additional unit of the
product consumed (the benefit of traveling more than
once a year might be diminished due to fatigue and other
factors)
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• Currency exchange rate: the price of one
currency in terms of another
• Appreciation: an increase in the value of a
currency
• Depreciation: a decrease in its value
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• Balance of Payments: a record of international
transactions
– In-payments and out-payments are two parts of the
balance of payments statement
• In-payment include exports of goods and services, unilateral
transfers, and inflow of capital in various forms
• Out-payments include imports of goods and services,
unilateral transfers, and outflow of capital in various forms.
– Surplus: in-payments exceed out-payments
– Deficit: out-payments exceed in-payments
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• Implications of currency exchange rate for
tourism
– When dollar is weak, travelers come to US
– When dollar is strong, US travelers go to other
countries (see p41 Figure 2-6)
– Airlines and other travel providers observe exchange
rates closely and price their product and services up
or down to avoid losing money
– Tour operators try to get guarantees from hotels,
ground transpiration operators and other travel
providers to that in case an exchange rate makes
travel more closely, they are protected from price
increase.
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• Tourism costs
– Too much dependence on tourism is dangerous due to factors
such as terrorism, natural disaster, pandemics, social unrest,
safety issues, political rivals, religious conflicts, world-wide
economic melt-down and others
– Social costs: crime, crowding, traffic, air polution, real estate
prices change, food prices and the increasing cost of local
government services such as police protection
– Other social costs include: low wage jobs; employment of illegal
immigrants; culture changes due to traveler’s intrusion of
different cultures; cost for government rise when immigrants are
employed but remit their revenues to their homes abroad.
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• Comparative Advantage
– There are differences in opportunity costs between
various parts of the world, cities, regions, and nations.
– A place has a comparative advantage in producing a
particular good and can produce that good at a lower
opportunity cost than competitors.
– Opportunity cost of any action is the best alternative
foregone. For some, there is no best alternative, so
the opportunity cost can be zero or negligible, e.g.
tourism in Bahamas.
– Tourism can fit nicely into many economies; it does
not have to have it all or have none of it.
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• Cost/benefit analysis: an attempt to
quantify and compare the pros and cons of
a tourism or other venture.
• It can cover more than economic
consequences of a decision; for example,
sociological and psychological costs. See
page 47.