1. Chapter 2 Demand for Tourism

2. Learning Objectives
• Define tourism demand, distinguishing between demand for travel
to a destination and demand for a particular tourism product.
• Differentiate between price and non-price determinants of tourism
demand.
• Appreciate the importance of each of price elasticity, income
elasticity, cross price elasticity and advertising elasticity as it relates
to tourism demand.
• Understand the important issues that must be addressed in
modelling tourism demand.
• Explain the relative importance of the various quantitative and
qualitative factors found by researchers to influence the demand
for international tourism arrivals.
• Evaluate the strengths and weaknesses inherent in the present
state of tourism demand modeling.

3. Factors influencing Tourism Demand
 Tourism demand refers to the willingness and ability of consumers to
buy different amounts of a tourism product at different prices during
any one period of time.
 Following standard theory, the demand for any good or service can
be expected to be influenced by a myriad of price and non-price
factors.
 The market demand function for a product or service is the
relationship between the quantity demanded of the product and the
various factors that influence this quantity.
 For tourism demand it is useful to distinguish between the demand
for travel to a destination (eg. visitor arrivals and expenditure) and
the demand for particular tourism related products or services within
the destination (eg. hotel rooms, restaurant meals, tours or
sunglasses).

4. Demand for Travel to a Destination
Price Vs non-Price factors
 Price factors. The cost of tourism to the visitor includes the cost of transport
services to and from the destination and the cost of ground content
(accommodation, tour services, shopping, entertainment etc.).
 The prices paid by an international tourist who must convert one currency into
another will also be influenced by prevailing exchange rates, and prices in the
destination as compared to prices in their home country.
 Non-price factors. These include socio-economic and demographic factors such as
population, income in origin country, education, occupation, availability of leisure
time, immigration stock and the like and qualitative factors including consumer
tastes, tourist appeal, destination image, quality of tourist services, tourist
preferences, special events, destination marketing and promotion, cultural ties,
weather conditions, random shocks and so on

5. Demand for a Tourism Product
 The most important variables affecting the demand for any good include the price
of the good (Px), consumers income (Y), the number of consumers in the market
(N), the price of related products (substitutes Ps and complements Pc), consumer
tastes (T), level of marketing/promotion expenditure (M), and other variables such
as consumer price expectations, interest rates, and so on.
 Thus we can specify the following general function of the demand for the
commodity (Qx) measured in physical units, where the dots at the end of the
equation refer to the other determinants of demand that are specific to the
particular firm and product:
Qx = f (Px, Y, N, Ps, Pc, T, M, - -- ) (2.1)
 In a tourism context Qx might refer to visitor numbers, car rentals, tickets to
attractions, number of airline passengers, numbers of T-shirts sold, swim suits,
hotel rooms demanded, etc.

6. Tourism demand and price
 Economic theory suggests that price and tourism demand have an inverse
relationship. As its price falls, the quantity demanded for a tourism product should
rise, and as its price rises, the quantity demanded should fall.
 This negative relationship (commonly called the law of demand) captures the
income effect and substitution effect evident in buyer behaviour.
 Income effect: as the price of a tourism product falls, its price relative to consumer
income falls and consumers can afford more of the tourism product given the same
income.
 Substitution effect: consumers can buy more of this now relatively cheaper tourism
product substituting it for other now relatively more expensive products.

7. Changes in Quantity Demanded and
in Demand
 A change in quantity demanded of a product or service results from a change in its
price and can be represented by a shift along the demand curve
 A change in demand results from changes in the non-price influences on tourism
demand. These factors cause the entire demand curve to shift left or right,
indicating a reduction or increase in demand at any given price.
Price $ Price $
(per unit) (per unit)
less quantity demanded as price rises
rise in
price
decrease increase
in demand in demand
fall in more quantity demanded as price falls
price
Quantity demanded Quantity demanded
Figure 2.1a: price and quantity demanded Figure 2.1b: non-price and demand

8. Market Demand Curve
 A market demand curve is the horizontal summation of individual demand curves.
 This is the case only if the consumption decisions of individual consumers are
independent. This is not the case if there is a bandwagon, snob or Veblen effect
present.
 The bandwagon effect refers to a situation where people demand a commodity
because others are purchasing it and it is regarded as ‘fashionable’ to keep up with
the Joneses’.
 The snob effect is the opposite of the bandwagon effect as some consumers seek to
be different and exclusive by demanding less of a product as more people consume
it.
 The Veblen effect refers to a situation where some individuals seek to impress
others by demanding more of certain ‘high status’ products or services as their
price rises. Also known as ‘conspicuous consumption’.

9. Tourism Demand and Elasticity
elasticity describes the sensitivity of one variable
to changes in another variable.
elasticity measures how much one variable
changes in direct response to changes in another
variable.
Tourism demand exhibits four main types of
elasticity relevant for policy.

10. Four elasticity measures
 Price elasticity: the extent to which demand for a tourism product changes because
of a change in the price of that product itself. eg., an increase in airfares will, other
things equal, result in reduced passenger numbers in air travel.
 Income elasticity: the extent to which demand for a tourism product changes
because of changes in the level of consumer income. eg., as individual and national
wealth rises, more air travel or leisure cruising will result.
 Cross price elasticity: the extent to which demand for a tourism product changes
because of changes in the price of substitute goods and complementary goods.
eg., the demand for air travel in Europe will be affected by changes in the price of
train or ship travel (substitute goods) or changes in the price of accommodation or
car hire (complementary goods).
 Marketing elasticity: the responsiveness of sales to changes in
marketing/advertising expenditures. Thus a tour operator may advertise on radio
or TV, or a destination may promote itself in newspapers and magazines, and the
internet generating increased visitation and sales revenues.

11. Price Elasticity of Demand
percentage change in the quantity demanded of the tourism product
ε = ----------------------------------------------------------------------------------
percentage change in the price of the tourism product
Suppose a boutique Paris hotel dropped the average price of its rooms by 10% and, as
a consequence, its occupation rate increases by 20%, ceteris paribus.
% change in quantity demanded 20%
ε = ---------------------------------------- = ----- = -2.0
% change in price -10%
Note: when discussing price elasticity of demand, we ignore the negative sign (the sign
will always be negative for price elasticity of demand) and just focus on the absolute
figure).

12. Demand for Holiday and Business
Travel

13. Determinants of price elasticity for a
tourism product
 The availability of substitutes. The more substitutes faced by the product, the more sensitive
its demand will be to price changes. Thus competition between a large number of motels
along a highway may help to keep prices low.
 The price relative to income. The price elasticity of demand for a product depends on the
importance of the product in consumer budgets. Demand tends to be more price elastic for
more expensive products. Thus, the demand for international holidays, for example, tends to
be more price sensitive than demand for domestic holidays.
 Whether the product is a necessity or a luxury. Demand tends to be more elastic for luxury
products. The demand for leisure travel (luxury), for example, tends to be more price elastic
than the demand for business travel (necessity).
 Time. The price elasticity of demand is greater the longer the time period allowed for
consumers to adjust to a change in price. Demand is less elastic in the short run (reflecting
immediate needs and limited available choice) but more elastic in the long run since it takes
time for consumers to learn about the availability of substitutes and to adjust their
purchasing patterns to a price change
 Expectations of whether a price change is considered to be permanent or temporary. For
example, a ‘one day sale’ of discounted hotel rooms will call forth a different demand
response than a permanent decrease of the same magnitude

14. Elasticity and Total Revenue
 a small percentage price increase in a tourism
related product:
reduces TR if demand is elastic (ε >1)
leaves TR unchanged if the elasticity is unity (ε =1)
increases TR if demand is inelastic (ε <1)

15. Elasticity of Demand and Total Revenue
$
D
ED 1(elastic)
ED 1(unitary)
P0
ED 1(inelastic)
MR D’
O
Quantity (units)
($)
Total
revenue
O Quantity (units)

16. Policy Implications
 Knowledge of price elasticity is important for tourism managers seeking to
maximise sales revenues.
 Knowledge of the price elasticity of demand for a product enables managers to
answer questions such as: How much of an increase in sales can we expect if we
reduce our prices by 5 per cent? To increase the amount we sell by 15 per cent,
how much must we reduce price?
 Because the price and quantity demanded for any tourism product are inversely
related, a firm must ensure that any rise in the price of its product will outweigh
any fall in sales or it will lose total revenue, and that any fall in the price of its
product will generate extra sales that outweigh the fall in price or it would again
lose total revenue.
 to increase total revenue, firms should follow the basic rule of thumb: raise the
price of inelastic products but lower the price of elastic products.
 An estimation of the price elasticity of demand, ε, can also help to determine the
optimal price of a product. P=MC (1/((1-(1/ε ))

17. Income elasticity of demand
 Income elasticity of tourism demand (εy) is measured as:
percentage change in the quantity demanded of the tourism product
εy = ----------------------------------------------------------------------------------
percentage change in income

18. Normal goods, luxuries, necessities and inferior goods
 Normal goods when there is a positive relationship between income
and tourism demand. Demand for the tourism product rises as
income rises, and vice versa. This is the case with most tourism
products (εY>0).
 Luxury goods are those that have a high income elasticity of
demand, exceeding one (εY>1). eg. first class air travel or 5 star hotel
 Necessary goods have a low income elasticity of demand, either at
zero or marginally above zero. eg. Quantity demanded of basic
foodstuffs (salt, bread) may be insensitive to income changes
 Inferior goods imply a negative relationship between income and
tourism demand. The income elasticity of demand is less than zero
(εy<0). eg. holidays at a domestic caravan park (inferior good) as
opposed to a hotel or motel (normal good), or five star resort (luxury
good).

19. Relationship between income and
tourism demand
Income ($)
Necessary good Normal good
(εy = 0 or very low ) (εy > 0)
Luxury good
(ε y > 1)
Inferior good
(ε y < 0)
Quantity demanded of tourism product

20. Policy Implications
 Knowledge of income elasticity of demand can help tourism managers to
determine if their product is a normal good (demand for the product rises as
income rises) or an inferior good (demand for the product falls as income rises).
Such information can help tourism managers identify more precisely the potential
markets for their products given anticipated changes in income over time.
 Income elasticity can play an important role in the marketing activities of tourism
organisations. If per capita or household income is found to be an important
determinant of the demand for a particular product this can affect the location of
and nature of sales outlets (eg cheap eats vs gourmet restaurant).
 Information on income elasticities is useful in developing marketing strategies for
products. Thus they can help to identify more precisely potential markets for
products (which types of consumers are most likely to purchase the product) and in
determining the most suitable media for promotional campaigns to reach the
targeted audience).

21. Cross-price elasticity of demand
Cross Elasticity of Demand between goods A and B = % change in the demand for A
- - - - - - - - - -- - - - - - - - - - -
% change in the price of B
 Substitute goods are those that can be used in place of one another. The products
exhibit positive cross price elasticity - a rise in the price of one product will lead to
a rise in the quantity demanded of the other product and vice versa.
 Complementary goods are used in conjunction with one another. The products
exhibit negative cross price elasticity - a rise in the price of one product will lead to
a fall in the quantity demanded of the other product, and vice versa.
 Eg., a rise in the price of air travel to a destination resulting in less visitation may
lead to a fall in the demand for hotel accommodation in that destination.

22. Substitute and complementary goods
 If goods A and B are substitutes, the quantity demanded of A is directly related to
the price of B.
 If A and B are complements, the quantity demanded of A is inversely related to the
price of B.
Price of B
A & B are
complements
A & B are
substitutes
Quantity of A

23. Policy Implications
 Firms need to know how the demand for their products are likely to respond to
changes in the prices of other goods and services. eg. if the cross-price elasticity of
the demand for a product with respect to the price of a competitor’s product is
high, a firm should respond rapidly to a competitor’s price reduction if it is to avoid
a loss of its sales.
 Box 2. 1 addresses Cross-elasticities of demand for travel in UK
 Information on cross-price elasticity is essential for formulating pricing strategy and
analysis of the risks associated with various products, particularly for firms with
extensive product lines, where substantial substitute or complementary relations
exist among the various products.
 Cross-price elasticity also allows managers to measure the extent of competition
across industries. While a firm might be a dominant supplier of some service within
the local tourism industry, a high cross elasticity of demand between the firm’s
products and products of firms in another industry indicates that the firm will not
be able to raise its prices without losing sales to other firms in other industries.

24. Marketing elasticity of demand
Marketing elasticity (εa) measures the responsiveness of
sales to changes in advertising/marketing expenditures.
It is measured by the ratio of the percentage change in
sales to a percentage change in adverting expenditures.
percentage change in the quantity demanded of the tourism product
εa = ----------------------------------------------------------------------------------
percentage change in advertising expenditure

25. Policy Implications
 Knowledge of marketing/advertising elasticity can assist tourism
managers to determine appropriate levels of advertising outlays.
 At the destination level, estimates of marketing elasticities can
inform the allocation of marketing expenditure between different
tourism products or different market segments.

26. Modelling Tourism Demand
 A large number of research studies have attempted to cast
light on what factors actually affect tourism demand, and
to what extent.
Demand functions can be formulated for domestic or
international tourism, or for particular tourism market
segments, products or services.
The most common method of estimating demand is
regression analysis.

27. Model specification
 The first step in using regression analysis is to specify the model to be
estimated. This involves identifying the most important variables that
are considered to affect the demand for the product.
 Suppose that our problem is to estimate the demand function for a
tourism product (for example, rooms in a four star hotel). The hotel
manager might consider the most important variables to include the
price of a room (Px); consumers income (Y); the number of consumers
in the market (N); the price of boutique hotels (substitute goods, Ps);
airfares to the destination, (complementary product, Pc); consumer
tastes, (T); marketing expenditure (A).
Qx = f (Px, Y, N, Ps, Pc, T, A, dummy variables, …) (2.2)
 The dots at the end of eqn 2.2 refer to any of the determinants of
demand that are specific to a product or destination.

28. Measuring demand for international tourism
arrivals
 A model of international tourism demand of the type that is typically estimated and tested
can be written as:
Qij = f (Yj, TCij, RPij, Ai, Mi) (2.6)
Where:
Qij = demand for international travel services by origin j for destination i;
Yj = income per capita in origin j;
TCij = transportation cost between destination i and origin j;
RPij = relative prices (that is, the ratio of prices in destination i to prices in origin j and in
alternative destinations, adjusted for exchange rate);
Ai = marketing/promotion expenditure by destination i.
Mi = migration levels in destination i
Equation 2.6 can be written in explicit linear form as
Qij = α0 +β1Yj + β2TCij + β3RPij + β4Ai + β5Mi + dummy variables + μ (2.7)

29. Dependent variables
 Researchers use a variety of proxies to measure the dependent variable (Qij) in a
tourism demand function.
 These include tourist arrivals and/or departures; tourist expenditures and/or
receipts; travel exports and/or imports; tourist length of stay; and the amounts of
nights spent at tourist accommodation.
 The demand can be in total covering all travel motives or the demand from a
particular market segment
 Typically, demand modellers lag the tourism demand variable on the grounds of
habit persistence and risk aversion on the part of visitors, and the presence of
supply constraints.

30. Independent (explanatory) variable:
income
 An increase in real income provides consumers with greater spending
power, resulting in the increased discretionary consumption of many
types of products including tourism.
 Wealthy countries and regions with strong currencies are important
origin markets for international tourism.
 The appropriate income variable is per capita personal disposable
income or per capita private consumption expenditure in the origin
country (in constant price terms).
 Studies show that per capita income is the single most important
determinant of demand for international tourism
 Some empirical results for the influence of income on tourism
demand are summarised in Box 2.3

31. Independent (explanatory) variable: relative
prices
 In their destination choice decision, tourists will consider the price
(cost of living) at the destination relative to the costs of living at the
origin and substitute destinations.
 Thus, two types of prices must be considered in the demand function
of tourism:
 relative price between the destination and the source country;
 relative price between different competing destinations which
generates the substitution price effect.

32. Cost of living at the destination relative to the
origin
 The relative price variable which is typically used in the demand for
tourism function is the ratio of the consumer price indexes between
the host and the origin countries adjusted by the bilateral exchange
rate.
 A higher exchange rate in favour of the origin country’s currency can
result in a greater flow of outbound tourism to other destinations.
 When the exchange rate-adjusted CPI ratio is used to measure the
relative prices of goods and services in the destination, the impacts
of inflation and exchange rate movements are measured through one
“relative price” variable, referred to as the "real exchange rate"

33. Limitations in use of CPI as a relative cost of
living measure
 because the expenditure pattern of a tourist is quite different from
that of the average household, the CPIs of the origin country and the
destination may not reflect the prices of goods which tourists actually
purchase
 trends in general price levels as implied by CPI measures may not
necessarily coincide with changes in tourism prices.
 While tourists are reasonably well-informed of changes in exchange
rates, information on price levels and price changes in destinations is
generally not known in advance
 Some empirical results for the influence of prices on tourism demand
are summarised in Box 2.4
 The role of income and price factors in influencing tourism demand in
the global financial crisis is highlighted in Box 2.6.

34. Cost of living at other destinations
 Tourists may consider a range of competing destinations before choosing any
particular one. They may compare changes in the cost of living in the choice
destination with the cost of living changes in the competing destinations.
 Researchers model this consumer thinking in either of two ways:
 One way to allow for the substitution between the destination and, separately, a
number of possible competing destinations, is by specifying the tourists' cost of
living variable in the form of the possible destination value relative to the origin
value, therein acknowledging that domestic tourism may be the most important
substitute for foreign tourism.
 The other way is to calculate the cost of living at any substitute destination relative
to a weighted average cost of living in the different competing destinations,
adjusted by the relevant exchange rates. This approach allows for the impact of
price changes in competing foreign destinations and is used more often in
empirical studies as fewer variables are incorporated into the model.

35. Transportation costs
 Transportation costs refer to the cost of round-trip travel between the origin and the
destination
 The demand for transportation is a derived demand, namely to purchase destination
tourism services.
 Unlike for other export goods, the consumer (tourist) must be transported to the product
(destination) rather than the reverse.
 While estimation of the price of surface travel tends to be straightforward, whether for
private vehicle, rental car, coach, train or ferry etc, estimating the cost of air travel can be
quite difficult.
 Studies show that tourist demand is generally more sensitive to transport prices than to
ground prices in a destination and that business travellers are less responsive to changes in
transport prices than leisure travellers.
 Higher incomes are generally associated with relatively higher demand for air transport.
Consistent with price elasticities, empirical evidence suggests that income elasticities tend to
be higher for leisure passengers and lower for business passengers.
 Some empirical results for the influence of transport costs on tourism demand are
summarised in Box 2.5

36. Marketing and Promotion
 The extent to which marketing and promotion expenditure influence tourism demand is
difficult to measure.
 Data permitting, a useful measure of marketing effectiveness, based on estimated
elasticities, is the return on marketing expenditure.
 Typically, researchers use the marketing budget of national tourism offices as a proxy. There
are, however, great difficulties in modeling the impact of marketing and of separating its
effect from the other major influences on tourism demand.
 Even if marketing expenditure can be estimated accurately across different origin countries
(often difficult to do), marketing expenditure per se does not indicate that the promotion is
effective. Different nationalities and cultures are likely to respond differently to marketing
and different destinations vary in their ability to use marketing effectively to attract
tourists.
 Studies show that marketing expenditure has a positive, but small effect on international
tourism demand (see Box 2.7)

37. Migration stock
 The choice of destination is also influenced by ethnic and migration factors, which
generate tourist flows for purposes of visiting friends and relatives in the various
destinations.
 There are several possible ways in which immigration can affect tourism.
 the greater the number of permanent migrants to a destination, the larger is the pool of
friends and relatives in the home country who have an incentive to visit that destination
 permanent migrants who visit their former country for VFR purposes may explicitly and
implicitly 'promote' the new homeland leading to an increased number of short term visits.
 an increasing number of migrants to a destination means that there is an increasing stock of
accommodation for friends and relatives who visit from overseas.
 knowledge that numbers of their compatriots have settled in a country is a contributing
factor to a visit to that country.
 permanent migrants enrich the local culture and render destinations more interesting and
diverse for tourists.
 permanent migrants who retain or forge business links with their former country may
influence the number of business travellers from their new homeland
 The larger the stock of migrants in a destination, the larger the volume of outbound tourism
to the former homeland
 Some studies on the influence of migration on tourism demand are summarised in Box 2.8

38. Qualitative factors affecting international
tourism demand
 Tourists’ demographic attributes which may affect leisure time availability or similar
constraints including
 gender, age, education level, employment, profession;
 Household size (composition of household, and child/children age);
 Trip motive or frequency;
 Destination attractiveness (climate, culture, history, and natural environment);
 Special events (Olympic Games, World Cup, religious festivals, Expo etc);
 Political events (terrorism, political unrest, currency crises, grounding aircraft
strike, oil crises);
 Natural events (tsunami, hurricanes, SARS, AvianFlu, Northern lights) etc.
 Such factors have varying relevance depending on the specific destination
 See Box 2.9 for a study of modelling US tourism demand for European destinations.