Tourism Economics, 2001, 7 (3 ), 277–293

Estimating the impact of economic factors

on tourism: evidence from Hong Kong

R AYM ON D Y.C . T SE
Department of Building and Real Estate, Hong Kong Polytechnic University, Hung Hom,
Hong Kong. Fax: +852 27645131. E-mail: bsrtse@polyu.edu.hk

This study examines issues relating to the impact of economic factors

on tourist expenditure and hotel room occupancy rate. The article
first presents an overview of the tourism industry in Hong Kong,
an examination of the particular aspects of the tourism industry, and
an estimate of tourist spending and hotel room occupancy rates.
Using an expectations model, real tourism expenditure is found to
depend on expected income, expected exchange rate and price level.
The results of the article also reveal that the equilibrium hotel
occupancy rate is a function of tourist flows, exchange rates, price
level and length of stay.

Keywords: exchange rate, hotel occupancy rate, tourism expenditure,

Hong Kong

Since the Second World War, international tourism has grown at a remarkable
rate. Tourism has, in fact, become one of the fastest-growing industries in the
world economy,1 with nations, states and communities funding boards of tour-
ism to promote their locations and attract further investment. Relative to other
forms of international trade, tourism has proved to be consistent and significant
in its growth.2 Even in the early 1980s, when there was a temporary stabilization
of demand, there followed economic recovery and a corresponding renewal of
growth worldwide.3
Tourism is a vital component of the national economy.4 Tourism is not only
a pleasure market;5 it is also an economic activity that develops according to
economic forces.6 Wanhill7 argues that tourism is a demand-led industry whose
influence pervades many different sectors of the economy.8 The view that
tourism is an export industry is of considerable appeal to communities in search
of economic development. Since the early 1980s, one of the most frequent
applications of economic tools to arts, culture and ‘mega-events’ has been
economic impact analysis. The focus of such studies has been to convince policy

The author is grateful to Hong Kong Polytechnic University Research Funding No YW44, and to
Darshi De Saram for research assistance. Responsibility for the content of the paper rests solely with
the author.
278 TOURISM ECONOMICS

makers and the general public that the arts should be supported not only for
their social and artistic value, but also for their economic contribution and their
contribution to tourism.9 This has become the starting point for any public
sector intervention in tourism projects.10
The growth of international tourism during the past 30 years has had impacts
on employment, gross domestic product, foreign exchange earnings, balance of
payments and the global economy in general. Although tourism has become
a conspicuously large and fast-growing industry, economic analysis of it has been
somewhat limited, possibly because it is not a single industry but rather
comprises businesses from numerous industrial classifications.11 It becomes more
important than ever to develop better methods for assessing the economic
importance of tourism on an area’s economy.
The development of mass tourism can significantly affect a host community’s
life. As an increasingly important industry, tourism directly contributes to the
economic prosperity of a community. Looking at the case of South Korea, Lee
and Kwon argue that the economic impact of tourism will be far greater if the
secondary (indirect plus induced ) impact, in terms of output, personal income,
employment, value added, indirect tax and imports, is also considered.12 They
further suggest that export sectors have a lower propensity for generating
foreign exchange earnings than tourism sectors, since the former are much more
dependent on imports. The low import multiplier for the tourism sectors
indicates less leakage effect than in the export sectors. Considering the lack of
indigenous raw materials and energy resources in South Korea, Lee and Kwon
propose that tourism should be promoted as one of the strategic export indus-
tries.13
Another important fact is that tourism is a labour-intensive industry, a
particularly attractive feature in economies with large numbers of poorly edu-
cated or unskilled workers, a characteristic that applies to many rural areas.14
It thus helps to reduce income inequality. Moreover, tourism-induced social and
cultural functions, such as interaction between hosts and guests and the devel-
opment of infrastructure, recreation facilities, and entertainment opportunities,
may enhance the quality of community living.15 Growth in tourism is, there-
fore, more than an increase in hotel rooms, number of visitors, and tourist
expenditures; it has an effect on the quality of life at the destination.
The world population is estimated to have reached six billion at the turn
of the century and 90% of this projected increase is attributed to the developing
countries. Because of the labour-intensive character of the hotel and tourism
industry, Ahmed and Josiam16 consider that it has the potential to generate
enormous employment opportunities for the populations in these countries.
Tooman17 suggests that labour-force participation and proprietary income will
be favourably affected. Proprietary income is an indication not only of tourism’s
ability to generate income, but also of its ability to encourage entrepreneurial
activity.
Tooman18 further argues that the first-order effects of tourism-led growth can
be dramatic and conspicuous. From an aggregate perspective, when the produc-
tion of goods and services increases the potential for profit, savings and further
investment are enhanced, and GDP growth is boosted. Extensive research has
been undertaken to understand the economic, social, and environmental impacts
of tourism. Two types of research are of particular relevance to tourism growth.
 Estimating the impact of economic factors on tourism 279

The first of these comprises studies with a business focus that trace industry
trends, such as occupancy rates, number of visitors, tourist expenditures, etc,
as well as the backward and forward linkages of the industry.19 The second
research approach comprises studies of residents’ attitudes towards the conse-
quences of tourism development.
Numerous studies have found that economic determinants alone account for
much of the variation in tourist activities. This paper therefore focuses on the
impact of economic factors on tourism. The paper is organized as follows. First,
there is a review of tourism growth in Hong Kong. This is followed by an
assessment of the effects of price on tourism demand. Then the variables and
data employed in this study are described and the model and empirical results
are presented. Finally, conclusions are offered.

Review of tourism growth in Hong Kong

International tourism in Asia is projected to grow rapidly as a consequence of

economic expansion and more intra-Asian travel.20 Almost half of the tourist
arrivals in the world originated in or around Asia in 1989. Two-thirds of the
international tourist arrivals in East Asia originated in Asia itself, with the
heaviest traffic between Malaysia and Thailand, Malaysia and Singapore, Japan
and Korea, Japan and Hong Kong, and Australia and New Zealand. The
positive economic conditions in Asia’s traditional industrial tigers – Singapore,
Hong Kong, Taiwan and South Korea – have also contributed to this growth
of intra-Asian travel. The populations of these countries are reaping the fruits
of economic prosperity by pursuing more leisure activities, including travel.21
Continued economic vitality in the tourism sectors of developing countries is
contingent on improving not only the infrastructural facilities but also man-
agement practices. This enhancement will ensure the contribution of the in-
ternational tourism industry to their long-term growth and economic diversi-
fication.22
At a regional level, East Asia Pacific (EAP ) provides the strongest average
annual growth rate over the period 1989–94, with arrivals growing at 10.6%
per year and receipts at 12.9% per year.23 EAP will continue to be the major
growth region, with its share is likely to rise to over 20% by the year 2010.24
This will reflect the changing structure of the world economy, with a shift away
from the traditionally powerful West, the emergence of other strong economies
(for example in EAP and South America ) and the creation of new markets across
the world.25 Fletcher and Latham26 also suggest that China could well become
a major generator of international tourism, much depending on its economic
growth and the relaxation of restrictions on travel.
With strong growth beginning in the 1980s, the tourism industry has been
Hong Kong’s second biggest (gross ) earner of foreign exchange, after textiles.27
Hong Kong remains one of the most popular destinations in Asia. In recent
years the number of mainland Chinese visitors has been rising as China adopts
more of an open-door policy. Hong Kong’s top three markets are China, Taiwan,
and Japan, which together account for over 50% of the total visitor arrivals.
In 1994, China overtook Taiwan as the largest single market for the territory.
The most recent data available indicate that the travel and tourism industry
280 TOURISM ECONOMICS

is a large and growing sector of the Hong Kong economy. Today it contributes
4–5% of the territory’s GDP.28 In 1999, the GDP of Hong Kong was US$128
billion.29 Restaurants, hotels and boarding houses alone employed some 220,000
employees, which is over 9.6% of the total Hong Kong workforce of 2.8
million.30
Visitor arrivals grew from around 6 million in 1989 to a peak of 11.7 million
in 1996, thus registering a 95% growth in a span of just seven years.31 Airline
capacity increased from 207,908 seats in 729 flights per week in 1989 to
409,224 seats in 1,337 flights per week in 1996; a nearly 97% increase in the
number of seats per week. Furthermore, the territory has an international
reputation for its excellent shopping and fine hotels. Hong Kong is the hub
in Asia for the regional offices of international hotel chains and the head offices
of indigenous hotel chains. The Hong Kong hotel industry has enjoyed high
occupancy rates in the past. With booming tourist arrivals in the latter part
of the 1980s, the hotel industry occupancy rates averaged 84.2%, substantially
above the world average of 66%.32 During the period from 1989 to 1996, the
room occupancy rate increased from 79% to 88% while the capacity for
accommodation increased from 69 HKTA member hotels offering 27,031 rooms
in 1989 to 88 hotels offering 33,536 rooms in 1996; a more than 24% increase
in the number of rooms.33 Receipts from visitors also grew from nearly US$4.62
billion in 1989 to nearly US$10.58 billion in 1996, thus registering a 95%
growth in seven years.
It might have been anticipated that the 1997 hand-over of Hong Kong to
China would lead to a prior surge in visitors, but there was no significant
change in the composition of visitors afterwards. 1996 was the peak year for
the Hong Kong travel industry and this may be due to the Asian financial crisis:
there was a decline in the following years when, in 1998, visitor arrivals
dropped to 10.16 million and receipts to US$6.95 billion. In 1996 per capita
spending was US$903 and the average length of stay was 3.7 nights. Although
these figures have dropped to US$602 and 3.10 nights in the first half of 2000,
the popularity of Hong Kong as a travel destination is on the rise.
Given Hong Kong’s geographical position, it has been able to develop itself
into an international and regional airline hub. It was named ‘Asia’s Best City’
in the fifth annual ‘World’s Best Awards’ readers’ survey conducted by the US
consumer travel magazine Travel and Leisure. Hong Kong was also rated as
having the highest level of economic freedom in the world for the fifth
consecutive year in the 2000 Index of Economic Freedom published by The
Heritage Foundation and the Wall Street Journal. For the fourth consecutive year,
Hong Kong was ranked third in terms of competitiveness among the world’s
major economies in the 1998 World Competitiveness Yearbook, published by the
International Institute for Management Development.
The first half of 2000 saw the arrival of 6,186,562 visitors, indicating that
the total for the year might well surpass that of the peak year 1996. Airline
statistics show that, by the end of 1999, there were 1,359 flights arriving per
week providing 399,534 seats per week. There are 91 HKTA member hotels
offering 35,420 rooms. The average room occupancy rate for the first half of
2000 is 79%, well above the worldwide average of around 68%.34 Receipts from
these visitors were US$3.7 billion, more than a 12% increase over the same
period in the previous year.
 Estimating the impact of economic factors on tourism 281

By the beginning of the 1990s, Hong Kong had successfully developed into
one of the leading business centres in Asia, and also as the gateway to China.35
Specifically, Hong Kong now attracts almost one in every two mainland-China
tourists. Arrivals from the mainland now account for almost 30% of total
arrivals. With the open-door policy of China, many Chinese people have money
and time for week-long holidays, and they are keen to travel. Mainland Chinese
spent more than US$1.67 billion in Hong Kong in 1999: Hong Kong is in
a much better position than other destinations to attract this trade, because it
is the closest region, has the same culture, uses the same language and is easily
accessible for mainland visitors. While the visitors from mainland China spent
an average of US$560 in Hong Kong, compared with the overall tourist average
of US$613, they bought 62% of all the jewellery sold to tourists in 1999, and
41% of the cosmetics bought by visitors. Their favourite purchases included
jewellery, clothes, leather goods, watches and clocks, and cosmetics. Above all,
for the people from the north of China the average expenditure on shopping
is US$1,192, because they are shopping not only for themselves, but also for
their relatives. However, some mainland visitors might understate what they
have spent because of restrictions on the removal of currency from the mainland.
Many shops in Hong Kong allow people to use yuan to buy products, and this
is an increasing trend. If Hong Kong is not to lose its place as the favourite
destination of big-spending mainlanders, attractions aimed at these visitors
must be developed – existing tourist sites need to be repackaged and shops and
hotels need to make it easier and more pleasant for them to spend. On the other
hand, a bridge to Zuhai from Hong Kong across the Pearl River Delta has been
proposed, and if that comes to fruition an increasing number of visitors will
use Hong Kong as an extended stop-over on their way to China.

Effects of price on tourism demand

To measure tourism growth, several indicators have been suggested. Some of

these are commonly known quantitative measurements, such as the number of
tourist attractions (such as museums, retail outlets ), tourist service facilities
(such as hotels and restaurants ), the number of visitors, and tourist expen-
ditures. Two other indicators of growth are improvements in highway acces-
sibility and increases in government participation in regional tourism planning
and development.36
Care must be taken to evaluate the effect of price on international tourism
demand, and it is difficult to decide on an appropriate measure of price. In
practice, ‘price’ includes the foreign currency price of tourist goods and services
in destinations, the transportation cost between countries, and the effect of
exchange-rate variations on purchasing power. In addition, the opportunity cost
of travel time and risk of travel may also be considerations.
Several studies have documented the influence of exchange-rate movements
on the real price of tourism services. For example, there is evidence that a strong
UK pound leads to a spending decline in real terms in the UK by overseas
tourists.37 Bivariate spectral analysis reveals significant leading cyclical depend-
encies between exchange rates and overseas tourists’ expenditures in the UK.
Lee38 states that, as with all imports and exports, the international sector of
282 TOURISM ECONOMICS

the lodging business is dependent on international economic conditions and

exchange rates. The US dollar was strong in relation to foreign currencies for
the three decades following the Second World War, thus encouraging Americans
to travel abroad and discouraging foreign visitors from travelling to the USA.
Then, during the 1970s, a weakening US dollar encouraged foreigners to visit
the USA. Foreign-visitor arrivals thus increased steadily, until in 1981, for the
first time in many years, they spent more in the USA than Americans spent
abroad. In 1982, however, the dollar strengthened and foreign economies
weakened. This decreased foreign travel to the USA and tended to encourage
Americans to travel abroad.39 Similarly, Archer40 states that Bermuda suffered
from the effects of the worldwide recession in the early 1980s. He further
illustrates many US residents took the opportunity to visit some of the less
expensive non-dollar-denominated destinations throughout the early 1980s
because the effective exchange rate of the dollar was high in relation to other
international currencies. The effect was that the number of air visitors declined
from a peak of 491,640 in 1980, to only 406,687 in 1985. As the world
recession began to ease in 1985 and 1986, non-dollar-denominated destinations
became relatively less attractive to US residents because the dollar’s effective
exchange rate weakened.41
Archer also cites the events of October 1987, when the New York Stock
Exchange experienced a crash of which the reverberations were felt in exchanges
throughout the world. A period of economic uncertainty followed, with most
international currencies experiencing severe weaknesses which, paradoxically,
created a rise in the effective exchange rate of the US dollar. Together, these
factors adversely affected the Bermudan tourism industry, and the number of
air arrivals fell by almost 11% in 1988. Then, in 1989, the weakening situation
was further compounded by a reduction in the number of air passenger seats
into Bermuda and a decline in the number of hotel beds, including the closure
of two major hotels. Air arrivals in 1989 declined another 2%. Archer further
states that the fall in incoming air passenger seats, however, was rectified by
late 1989, and the downward trend in arrivals was reversed, aided by a relatively
weak US dollar.
Lee42 describes the lodging business as one of the few industries that export
services to be consumed within the exporting country: that is, a foreign visitor
in Hong Kong purchases a Hong Kong export (although the services he or she
consumes never leave the country ) and a Hong Kong resident travelling abroad
is consuming a foreign import. Lee43 considers the pleasure market as the more
fickle of the travel industry’s market segments. It is price-sensitive and easily
affected by economic conditions. Furthermore, the travel industry faces great
competition from non-travel entertainment for both these individual’s leisure
time and discretionary income. Factors such as fuel shortages, transportation
workers’ strikes and poor weather may also have negative effects on the decision
on whether or not to travel.

Variables

There are essentially two measures of tourism activity: tourism flow (arrivals )
and tourism expenditure. The average daily census, which combines arrivals and
 Estimating the impact of economic factors on tourism 283

average length of stay, gives a more accurate measure of the volume of tourists
in a destination on a given day. This measure becomes particularly important
to government, which is concerned with the economic and social impacts of
tourism. Neither of these volume measures, however, satisfies the forecasting
requirements of economic planners as neither takes into account the ‘expecta-
tion’ factors of tourism. As Frechtling44 points out, expenditure studies alone
suffer from biases and inaccuracies, and are not adequate for measuring the
economic impact of tourism because of linkages and leakages in the economy.
Coshall45 suggests that the major market fundamental variable that affects the
performance of the hotel industry is visitor arrivals – the average length of stay,
the occupancy rate and the supply of hotel rooms and other substitutes such
as hostels or guest houses.
Such studies are, however, important inputs to other methods of measuring
economic impact. Specifically, ‘micro’ and ‘macro’ demands for transient accom-
modation are identified.46 Macro data include person trips and person nights,
purpose of trips, characteristics of trips, receipts and payroll, modes of trans-
portation, international travel and travel price data. Micro data include room
nights and occupancy level. Macro data are often readily available on a national
basis, but data are difficult to obtain for most micro markets. As Hong Kong
is a small region, all the data on the demand for transient accommodation are
available for this micro market.
Basically, hotel room rates are market-driven: when hotel demand is strong
and the market is under-supplied, occupancies will increase and room rates
should show impressive gains. When hotel supply exceeds demand, occupancies
will fall and hotel room rates will either level or start to decline. This implies
that hotel room rates are reflected by the hotel occupancy rates. Rushmore47
argues that occupancy is the economic factor that best reflects the overall health
of the lodging industry. Occupancy drives hotel room rates, total revenue and
profitability. He argues that area-wide occupancy is determined by supply and
demand. Hotel demand is measured by room nights while hotel supply is the
number of rooms available from competitive properties within a specific market
area. In practice, the most important economic indicator of lodging industry
performance that is widely used is the average occupancy rate.48
Occupancy statistics have been commonly used to monitor industry trends
– see, for example, Jeffrey49 and Kirkpatrick and D’Sa.50 However, Wassenaar
and Stafford51 consider that average occupancy and room-rate statistics are
problematic as economic indicators, the major difficulty being the lack of
availability of reliable data on average occupancy and room rates for many travel
destinations. Sometimes only one statistic is disclosed while the other is ignored
– maybe in the belief, according to Lee, that both have a high, positive
correlation. 52 Lee further notes that these statistics can be confusing or deceptive
even when they are available: sometimes one indicator increases and the other
decreases, and thus the overall industry trend is not apparent. Horwath et al53
state that when room occupancy is low the average room rate is also low, because
most of the occupied rooms are in the lower-priced groups. As the occupancy
improves, a larger proportion of the high-priced rooms are occupied and
naturally the average room rate goes up.
Tourism expenditure data are more difficult to measure because the tourism
industry consists of so many component sub-industries. Most countries collect
284 TOURISM ECONOMICS

arrivals data but not all collect expenditure data, which are not included in their
national accounts. A good summary of the biases and errors of different methods
of collecting expenditure data is provided by Frechtling.54 Tourist arrivals and
expenditure data are shown to fluctuate differently, thus requiring an investi-
gation of the accuracy of different methods of forecasting tourism expenditures.
Sheldon55 argues that the conversion of tourist arrival forecasts into expenditure
forecasts by multiplying by average daily expenditures may be misleading. She
suggests that the three most commonly used methods of tourist expenditure
data collection are bank records of foreign exchange transactions; surveys of
tourists; and surveys of tourism establishments.
Eadington and Redman56 present an in-depth analysis of the literature on the
issue of expenditure demand function. Also, other studies by Gary,57 Little,58
Loeb59 and Rosensweig60 have used the exchange rate variable as an independent
variable. However, the data in use should be time series, not cross-sectional,
if exchange rates are to be included as a variable to explain the dependent
variable.
In the present study, the variables considered are:

(1 ) Tourist flows (TR ) – the number of tourists. TR represents the annual

aggregate data on international tourist arrivals in Hong Kong. Note that
visitors from Mainland China were included after 1992.
(2 ) Exchange rate (EX ) – the effective exchange rate indexes for the Hong Kong
dollar. The index is calculated with average trade weights (import and
export ). The effective exchange rate indexes measure movements in the
weighted average of nominal exchange rates of Hong Kong dollar against
the currencies of 15 principal trading partners. These partners are selected
on the basis of their merchandise trade with Hong Kong and their relative
importance in world trade. They are: Australia, Belgium, Canada, China,
France, Germany, Italy, Japan, The Netherlands, Singapore, South Korea,
Switzerland, Taiwan, the UK and the USA.
(3 ) Length of stay (DY ) – nights per visitor.
(4 ) Hotel room occupancy rate (RM ) – the room occupancy rate (in percentage
terms ) is based on surveys conducted monthly among Hong Kong Tourist
Association members.
(5 ) Price (P ) – the Consumer Price Index A, which measures the average retail
prices of the principal foodstuffs obtained by price investigators from
market stalls and shops throughout Hong Kong.
(6 ) Real per capita tourist spending (SP ) – the per capita spending of visitors
divided by consumer price index.

All of the above data come from the Hong Kong Annual Digest of Statistics and
Hong Kong Monthly Digest of Statistics. This study employs annual data from 1973
to 1998.

The model

Modelling tourism demand with econometric techniques has been a major issue in
the tourism literature over the last 30 years. Several authors have attempted to
 Estimating the impact of economic factors on tourism 285

explain and forecast tourism demand basing their assumptions on the belief that
the total demand of an origin country to all destinations is best explained by
economic variables.61 Since international tourism is generally regarded as a luxury
product, income and price factors are likely to play a central role in determining
the demand for international tourism. Published academic research on tourism
demand has used exchange rates, income in the origin country, and relative price
levels as the major independent variables. Sheldon62 summarizes the variables used
in macro models developed in the tourism literature by ten authors.
Demand measured by a regression model is a theoretical construct involving
the functional form and the variables included in the model. Using it as a
demand measure involves assuming that most of the effect of the determinants
of demand is captured by the explanatory variables included in the model, is
adequately modelled by the functional form of the model, and is predominantly
systematic. Tourism demand is typically modelled using multiple regression to
fit a linear or log-linear model with a small set of explanatory variables. This
methodology has the advantage of simplicity, but it ignores much of the current
state of knowledge with regard to estimation problems in multiple regression,
the effects of mis-specification of model structures and different error distri-
butions. Crouch63 summarizes the empirical models used in previous literature.
In a study of the suitability of regression analysis for estimating tourism
demand, Summary64 argues that typical multivariate demand functions esti-
mated by ordinary least squares regression may not represent the optimal
technique in studying tourism demand. This cautiously worded but negative
conclusion is critical of the common use of regression for demand modelling,
which considers a limited set of independent variables to explain demand
changes. It is unlikely, however, that the widespread use of multiple regression
for estimating tourism demand functions will diminish, given its widely per-
ceived advantages over other ways of forecasting demand.
Comprehensive reviews of the literature on international tourism demand can
be found in Ashworth and Johnson65 and especially Crouch.66 These reviews
have concentrated on discussing the various models that have been examined,
as well as several issues relating to data. In this study, I focus attention on the
econometric issues concerning proxy variables, methods of estimation and the
use of an expectations model, which have not previously been examined in detail
in the literature. The lack of availability of data has often meant that proxy
variables have been used in place of the explanatory variables originally specified
in the model. In some studies, researchers have indicated the types of variables
that they recognize to be important, but have nevertheless omitted them from
the studies because of the lack of availability of such information.
In view of the above problems, a tourism demand model that represents a
long-run equilibrium relationship may not reveal a true relationship when its
estimation is done with the use of conventional econometric procedures. Also,
given the complexity of tourism, such relationships may not be regarded as
sufficient to support the theoretical background, especially that part which
concerns the expectations of the variables. The assumption that past trends and
patterns will continue into the future is an uncertain one for tourism demand.
Because of these factors, causal methods that estimate a specified demand model
in terms of ex post explanatory variables using multiple regression techniques
to estimate the model parameters may be inappropriate.
286 TOURISM ECONOMICS

Much attention has been centred on how tourism spending and exchange rate
should be modelled. However, the relationships between tourism spending,
income and exchange rate are not yet fully understood. Most studies assume
that tourism spending responds to ex post income and exchange rate changes.
However, tourists are well informed on exchange rates but have imperfect
knowledge on price levels. Tourists may base their decisions prior to departure
on a knowledge of exchange rates, but may alter their intended length of stay
and level of spending on arrival as they adjust to local currency prices. Thus
expected income and exchange rate may be more important than their current
ex post values. However, tourism demand may be more sensitive to exchange
rates in the short run.67
This study uses an expectations model to test real tourism expenditure (SPt ).
The three explanatory variables used are expected income (EtYt ), expected
exchange rate (EtEXt ), and price level (Pt ). The linear model is specified below:
SPt = f(EtYt, EtEXt, Pt ) (1)
Fluctuating exchange rates can result in several different effects. Five impacts
of an unfavourable change in exchange rates are identified: less travel abroad;
travel to different locations; a reduction in expenditure and/or length of stay;
changes in the mode or time of travel; and a reduction in spending by business
travellers and border shoppers.68 In general, one would anticipate that tourism
spending would increase with expected income and decrease with expected
exchange rates and prices:
¶ SPt/¶ EtYt > 0, ¶ SPt/¶ EXt < 0 and ¶ SPt/¶ Pt < 0
However, the income data are more difficult to measure because the determi-
nants of income in the home country are complex and varied. These income
data are important to measures of international tourism volume and interna-
tional tourism expenditures. Since different countries have different economic
conditions and income levels, there is no single measure of income for inter-
national tourism. However, it is reasonable to assume that the measure of
expected tourist volume in the form of arrivals is directly proportional to the
expected income,69 such that EtTFt µ EtYt. We can therefore write:
SPt = g + d EtTFt + a EtEXt + h Pt (2)
where d > 0, a and h < 0
Using Cagan’s adaptive expectation model,70 we have
EtTFt – Et–1TFt = m (TFt-1 – Et–1TFt ) (3)
and
EtEXt – Et–1EXt = l (EXt–1 – Et–1EXt ) (4)
Equations (3 ) and (4 ) also imply that:
EtTFt = m (1 – (1–m )L )–1 TFt–1 (5)
and
EtEXt = l (1 – (1–l )L )–1 EXt–1 (6)
where L denotes the lag operator, LEtTFt = Et–1TFt and LEtEXt = Et–1EXt.
 Estimating the impact of economic factors on tourism 287

In general, we have

for x = EX, TF and g = m , l respectively.

The expected tourist flow and exchange rate are adjusted upward, relative
to their previous values, when the last actual tourist flow and exchange rate
exceed their own previous expected values. For instance, if TFt–1 were smaller
than Et–1TFt, the value of EtTFt would be lowered relative to Et–1TFt. The extent
of the adjustment is indicated by the parameters m and l : if the parameter is
close to 1.0, the adjustment is relatively strong (and weak if it is close to zero ).
If we multiply both sides of Equation (2 ) by (1 – (1–m )L )(1 – (1–l )L ), and
substituting for EtTFt and EtEXt from Equations (5 ) and (6 ) respectively, we
obtain:
SPt = b0 + b1SPt–1 + b2SPt–2 + b3TRt–1 + b4TRt–2 + b5 EXt–1 + b6 EXt–2

+ b7Pt + b8Pt–1 + b9Pt–2 (7 )

where:
b0 = l m g
b1 = (2–m –l )
b2 = –(1–m )(1–l )
b3 = d m
b4 = –d m (1–l )
b5 = a l
b6 = –a l (1–m )
b7 = h
b8 = –(2–m –l )h
b9 = (1–m )(1–l )h
Equation (7 ) is a linear function of ten coefficients but a non-linear function of
the five structural parameters, d , a , m , l and h . Thus, there are 5 restrictions.
Note that all variables are in logarithmic form.
Equation (7 ) will be estimated by the method of non-linear least squares,
which minimizes the sum of squared residuals with respect to the parameters.
The non-linear restriction will also be tested. To estimate a non-linear model,
consider a general form of the regression model yt = h(xt, m ) + x t, the non-linear
model determines the values of the parameter (m ) that minimize the sum of
squared deviations,
n
S(m ) = S (yt – h(xt, m ))2
t=1
The non-linear least squares estimators will be the maximum likelihood
estimators. This model will generate a set of non-linear equations that do not
have an explicit solution. Thus an iterative procedure will be required to solve
it.
Table 1 presents the empirical results. As expected, the coefficients on the
expected tourist flow are positive and the coefficients on the expected exchange
rates are negative. The intercept is positive and the coefficients are significant
at the 1% level and the adjusted R2 = 0.839. The interpretation of this linear
288 TOURISM ECONOMICS

Table 1. Estimation for real tourism spending.

Coefficient t-statistic

d 0.412* 1.997
a –1.157*** –4.997
m 1.006*** 4.70
l 0.623*** 3.331
g 7.46*** 3.629
h –0.959*** –3.711
Adj. R-squared 0.839
Standard error 0.068
Log likelihood 32.72
Note: *, ** and *** indicate significance at the 0.1, 0.05 and 0.01 levels, respectively.

model is straightforward. The results indicate that the effect of the expected
income (expected tourist flow as a proxy ) on tourism spending is 0.412, and
the effect of the expected exchange rate on tourism spending is –1.157. The
result 0 < d < 1 implies that aggregate visitors’ expenditure is inelastic with
respect to income. The above result is also supported by Lin and Sun71 who
found that international tourism to Hong Kong was highly exchange-rate
elastic. The corresponding adjustment parameters m and l were found to be
1.006 and 0.623, respectively. The Wald test indicates that the hypothesis for
m = 1 cannot be rejected.
In the second part of this study, we assume that the equilibrium hotel
occupancy rate (RM*t ) is a function of tourist flows (TR ), exchange rates (EX ),
price level (P ) and length of stay (DY ):
RM*t = g(TR t, EXt, Pt, DYt ) (8)
where ¶ RM /¶ TR t and ¶ RM /¶ DYt > 0, and ¶ RM /¶ EXt and ¶ RM /¶ Pt < 0.
*
t
*
t
*
t
*
t

A common practice in empirical work is to assume that the equilibrium

values of a variable are a function of its current and past values. Following this
background, a gradual adjustment to the hotel occupancy rate, as presented by
Equation (9 ), is incorporated into the model. In this study, it is assumed that
the current hotel occupancy rate (RMt ) depends on both the equilibrium hotel
occupancy rate (RM*t ) and the hotel occupancy rate observed in the previous
period (RM t–1 ):
RMt = q RM*t + (1 – q )RMt–1 (9)
where q is the rate at which RMt converges to the equilibrium rate RM*t . The
hypothesis is: 0 q £ £
1. Combining Equations (8 ) and (9 ), the complete hotel
occupancy rate adjustment specification for empirical estimation is:
RMt = q g(TR t, EXt, Pt, DYt ) + (1 – q )RMt–1 (10 )
Against this background, we employ the following log-linear function:
RMt = a0 + a1TRt + a2EXt + a3Pt + a4DYt + (1 – q )RMt–1 + ut (11 )
where ut is an error term. Thus we expect: a1 and a4 > 0, a2 and a3 < 0.
The results are reported in Table 2. The model performs well. The log-linear
 Estimating the impact of economic factors on tourism 289

Table 2. Estimations for room rates and tourist flows.

Model 1 Model 2

a0 3.605*** –
(3.441 )
TR 0.275** 0.341**
(2.449 ) (4.085 )
EX –0.502*** –0.352***
(–4.824 ) (–3.352 )
P –0.360** –0.443***
(–2.789 ) (–4.077 )
DY 0.805*** 0.720**
(3.700 ) (2.627 )
q – 0.447***
(4.884 )
Adj. R-squared 0.390 0.590
DW 1.215 1.847
Standard error 0.062 0.051
Note: Figures in parentheses are t-statistics. *, ** and *** indicate significance at the 0.1, 0.05 and 0.01
levels, respectively. All variables are in logarithmic form.

regressions in both models 1 (without q ) and 2 (with q ) identify tourist flow,

exchange rate, price, and length of stay as significant determinants. The co-
efficients of these variables are consistent with expectation in Equation (11 ).
It is interesting to note that length of stay (DY ) has a significant positive
coefficient in both models. Model 2 appears to perform better than model 1
where the lagged RM is excluded. Model 1 has a relatively lower value of DW-
statistic. In terms of adjusted R2 values, one would prefer model 2, which
explains nearly 60% of variations in the dependent variables, compared to 39%
in model 2.
As shown for model 2 in Table 2, a 1% increase in tourist flow and length
of stay leads to, respectively, a 0.34% and 0.72% increase in hotel occupancy
rate. However, a 1% increase in exchange rate and price leads to, respectively,
a –0.35% and –0.44% decrease in hotel occupancy rate. The results imply that
the occupation rate is inelastic with respect to tourist flow, length of stay,
exchange rate and price level. The occupancy rate parameter q is found to be
0.447.

Conclusion

This article has presented an overview of the tourism industry in Hong Kong,
an examination of the particular aspects of the tourism industry, and an estimate
of tourist spending and hotel room occupancy rates. Its purpose has been to
assess the impact of economic factors on tourist expenditure and the hotel room
occupancy rate. The aim of the study is to increase understanding of the forces
and trends that drive the tourism and hotel business.
However, growth in tourism is more than an increase in hotel rooms, tourist
flows and tourist expenditures. The development of public infrastructure, such
290 TOURISM ECONOMICS

as improved highway access, communication, and sewer systems, can be signs

of a growing tourism industry. Government can take an active part in the
development and promotion of new attractions and special events, sports and
outdoor recreation activities, and business conference facilities. Wanhill72 argues
that the principal role of government intervention is to act as a catalyst to give
confidence to investors. Thus, public funds are able to lever private money by
dint of the government’s commitment to tourism and thus enable the market
potential of an area to be realized. Around the world, governments have
intervened to assist and regulate the private sector in the development of
tourism. This is because it is unlikely that the private sector alone will satisfy
a country’s tourism policy objectives by producing the balance of facilities that
meets the needs of the visitor, benefits the host community, and is compatible
with the wishes of that same community. Incentives are policy instruments that
can be used to correct market failure and ensure a development partnership
between the public and private sectors. Nevertheless, the extent of public
involvement depends on the economic philosophy of the government. The trend
towards pure market-led economics in the 1980s led to a decline in state
involvement and the questioning of incentives as mechanisms that were more
likely to lead to market distortions. This is in total contrast to the concept of
sustainable development, which challenges the ability of private markets to
improve the distribution of income and protect the environment.73
In the context of total travel volume, many contingencies influence lodging
demand. The consumer’s lodging choice is affected by the means and cost of
transportation, the difficulties of travel, the availability of alternative forms of
entertainment or communication, and a host of other factors that range from
the weather to a personal decision to stay at home this year. Once the consumer
has decided to travel, where to go, how to get there, how long to stay and what
type of accommodation to take, there is still the final choice of a specific hotel.74
Additional data will allow further testing and refinement of the model. For
example, socio-demographics and travel behaviour are variables that could be
considered in future research. An accurate measure of the economic impact of
tourism is important in facilitating policy and planning decisions. The transport
sector, for example, is highly dependent on tourism activity. Thus, studies
related to economic impact will continue to play an important role in public
policy.
Endnotes
1. William R. Eadington and Milton Redman, ‘Economics and Tourism’, Annals of Tourism Research,
Vol 18, 1991, pp 41–56.
2. Ibid.
3. John Fletcher and John Latham, ‘Databank: Global tourism trends’, Tourism Economics, Vol 3,
No 1, 1997, pp 83–88.
4. See, for example, Lynda Y. De La Vina, Daniel Hollas, John Merrifield and Jamie Ford, ‘A
principal components-based tourism activity index’, Journal of Travel Research, Spring, 1994, pp
37–40; and Raymond Y.C. Tse, ‘A simultaneous model of tourism flow, spending and receipts’,
Tourism Economics, Vol 5, No 3, 1999, pp 251–260.
5. Tourism affects a host community’s life. Tourism-induced social and cultural functions may
enhance the quality of community.
6. K. Przeclawski, ‘Tourism as the subject of interdisciplinary research’, in Douglas G. Pearce and
Richard Warren Butler, eds, Tourism Research: Critiques and Challenges, Routledge, London, 1993,
pp 9–19.
 Estimating the impact of economic factors on tourism 291

7. Stephen R. C. Wanhill, ‘Evaluating the worth of investment incentives for tourism development’,
Journal of Travel Research, Fall, 1994, pp 33–39.
8. It is expected that the demand for recreation activities is basically led by the income of
individuals. The growing influence of many countries in terms of tourism development is likely
to continue, with gains in capital investment and business expenditures, which are expected in
this part of the world into the next century. This means that new hotels and resorts will be
built, new aircraft purchased, new infrastructure developed, new automobiles bought and a
multitude of new plant and equipment assembled to meet the growing demand for travel and
tourism, thus generating new wealth and jobs throughout the economy.
9. W. Warren Mchone and Brian Rungeling, ‘Practical issues in measuring the impact of a cultural
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10. Wanhill, op cit, Ref 7.
11. L. Alex Tooman, ‘Tourism and development’, Journal of Travel Research, Vol 35, Winter, 1997,
pp 33–40.
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54.
13. Ibid.
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Journal of Travel Research, Summer, 1994, pp 32–37.
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17. Tooman, op cit, Ref 11.
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26. Ibid.
27. Martin G. Barrow, ‘The second-largest foreign exchange earner, tourism’, Hong Kong Business
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28. Hong Kong Tourist Association (HKTA ), A Statistical Review of Tourism 1999, Government of
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29. Census and Statistics Department, Hong Kong Monthly Digest of Statistics, The Government of
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30. Ibid.
31. Census and Statistics Department, Hong Kong Monthly Digest of Statistics, various issues, The
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36. Wang and Godbey, op cit, Ref 15.
292 TOURISM ECONOMICS
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39. Ibid.
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by country of origin impacts on tourism expenditure.
 Estimating the impact of economic factors on tourism 293

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