# Theoretical structure of a tourism focused CGE model for measuring economic impact of an economy

Scientific Study 2017 44 Pages

## Excerpt

## Table of Contents

1 Introduction

2 Economic Impact Analysis of Tourism

3 An Overview of the Model

3.1 The Theoretical Structure of the Model

3.2 Implementing the Model

3.3 Dimensions of the Model

3.4 Variables and Coefficients of the Model

4 The System of Equations of the Model

4.1 Input Demands for Current Production

4.1.1 Demand for Different Occupational Categories of Labour

4.1.2 Demands for Aggregated labour, Capital and Land

4.1.3 Demands for Intermediate Inputs

4.1.4 Top Level Demands for Composite Inputs

4.2 Supply of Outputs for Domestic Market and Export Market

4.3 Inputs Demands for the Production of Fixed Capital

4.4 Demand Equations

4.4.1 Household Demands

4.4.2 Foreign Demand for Exports

4.4.3 Government Demands

4.4.4 Inventory Demands

4.4.5 Demands for Margins

4.5 Price System and Zero Profit Conditions

4.5.1 Power of Taxes and Indirect Tax

4.6 Market Clearing Equations

4.7 Miscellaneous Equations

4.7.1 Gross Domestic Product (GDP)

4.7.2 Trade Balance, Basic Imports and Real Exchange Rate

4.7.3 Primary Factor Aggregates

4.7.4 Investment and Rates of Return

4.7.5 Labour Market Equilibrium

5 Modelling the Tourism Sector

5.1 Modification of Data Structure

5.2 Theoretical Structure of the Tourism Extension

6 Concluding Remarks

References

Appendixes

## Preface

Measuring the contribution of tourism to a national economy has always been a frustrating exercise. Tourism does not have specific products. It represents the sum of expenditure by travellers for wide range of products. It is not possible to identify tourism as a single "industry" in the national accounts, its value to the economy is not readily revealed. As a result of the absence of tourism in official economic statistics, there is often an on-going battle to establish tourism credibility as an economic activity and generator of income in the economy. As a result, a significant volume of tourism research over the past few decades have focussed on the development and use of a variety of economic techniques aimed at quantifying the effects of tourism on an economy. In conventional literature has proven that Computable General Equilibrium (CGE) modelling is the best applied tool addressing and analysing tourism related issues in an economy. The paper provided a complete description of the theoretical structure of the CGE-Tourism including all equations and variables by using relevant Excerpts for different blocks of equations in the TABLO file associated with the GEMPACK software used to operationalise the model. The incorporation of tourism using the dummy sector approach into an ORANI type CGE model as an extension and can be considered as the main contribution of this study to the CGE modelling literature for An economy. This is a clear departure from the traditional methods used for tourism modelling in an economy. This model can be used to simulate the economic impact of the tourism boom in an economy.

## 1 Introduction

Measuring the contribution of tourism to a national economy has always been a frustrating exercise. Tourism is not recognised as one single commonly acknowledged industrial sector in the United Nations national accounting framework(Fletcher, 1989). The reason for “this apparent anomaly” is that in the national accounting sense an industry is defined as a group of businesses producing a product or service, and the value of an industry is measured by how much of that product is produced(Forst, 1999). Tourism does not have specific products. By contrast it represents the sum of expenditure by travellers for wide range of products, for example transportation, lodging, meals, entertainment, retail sales, etc. “Since it is not possible to identify tourism as a single "industry" in the national accounts, its value to the economy is not readily revealed. Tourism activity is “hidden” in other industry activities”(Fernando, 2015). All of these activities are included in different sectors such as food and beverages, trade and transport. As a result, economic activities generated by tourism are not separately identifiable in the normally used national income and product accounting framework(Fernando, 2017). Therefore, this framework ignores the role of tourism as an economic activity and as a generator of income and jobs in the economy(C. Smith, Bandara, Liyanaarachchi, & Fernando, 2014). As a result of the absence of tourism in official economic statistics, there is often an on-going battle to establish tourism credibility as an economic activity and generator of income in the economy(Fernando, 2015). Policy analysts cannot use official national income statistics to measure the impact of tourism on an economy. As a result, a significant volume of tourism research over the past few decades have focussed on the development and use of a variety of economic techniques aimed at quantifying the effects of tourism on an economy.

In conventional literature has proven that Computable General Equilibrium (CGE) modelling is the best applied tool addressing and analysing tourism related issues in an economy(Fernando, 2016)(see for a comprehensive and up-to-date tourism-focused CGE modelling survey, Fernando, 2015). Therefore, the aim of this paper is to develop a Computable General Equilibrium Model for an economy (hereafter referred to as CGE-Tourism) for tourism impact analysis. The core model of CGE–Tourism closely follows the well-known Australian ORANI model(Dixon, PARMENTER, SUTTON, & VINCENT, 1982)and the extension of tourism to the core model closely follows the recent work of Australian tourism modellers(Clark, Dent, & Watts, 2004; Fernando, 2015, 2016; Ihalanayake, 2012; Madden & Thapa, 2000; Pham & Dwyer, 2013). This paper contains six sections. The second section provides a brief summary of economic impact analysis of tourism. Section three outlines the overview of the theoretical structure and implementation of the CGE-Tourism model. The system of equations of the core model of CGE-Tourism is presented in section four. Section five describes the new extension of tourism modelling to the core model. The final section makes concluding remarks.

## 2 Economic Impact Analysis of Tourism

International tourism expenditure is an invisible export which creates a flow of foreign exchange in to the economy of the destination country(Archer, 1982). Like most other forms of exports, tourism receipts generate business income, household income and government revenue. In other words inward-bound tourists contribute to a destination’s sales, profits, jobs, tax revenues, and income(Stynes, 1997). Consequently, tourism expenditure creates multiplier effects in an economy(Fernando, Bandara, Liyanaarachch, & Smith, 2014). Firstly, the initial tourist spending injects foreign exchange in to the economy as direct revenue for economic activities such as hotels, restaurants, travel agencies and other entertainment businesses. Then the initial tourism expenditure makes primary economic impacts to the economy in the form of income to businesses for goods and services bought by tourists, wages to households in connection with tourism related employment and income to the government through tourism related taxation and fees. These initial total tourist expenditures are the direct effects or the first-round effects in the economy. Secondly, the tourism related sectors purchase a wide range of different inputs from other sectors to provide services to tourists. Then expenditure flows through the economy as payments from these recipients to their suppliers, salaries and wages for households who provide labour to other industries, and various government taxes and charges payable by other business sectors. Thus, the effect of the initial expenditure is multiplied throughout the economy. This is the indirect effect of the tourism expenditure. Thirdly, as a result of an increase in income earned from direct and indirect effects of tourism spending, households increase their purchases. This additional consumption raises the demand for goods and services which generates further income and employment opportunities to the economy by providing further impetus to economic activity which is known as the induced effect. The indirect and induced effects together are sometime known as the secondary effects(Archer, 1982). Although tourism expenditure injects some foreign exchange in to the economy, a part of foreign exchange flows away from the economy as a leakage when business, household and government purchase goods and services from the other countries. In general, it can be concluded that initial expenditure by tourists have significant effects throughout the economy as a result of increased income and expenditure by a range of different groups and the total economic impact of tourism is the sum of direct, indirect and induced effects in an economy. Figure 1(Fernando, 2015)conceptually exhibits how tourism receipts flows in to the economy and create economy-wide impacts(Fernando, 2015; Fernando, Bandara, Smith, & Pham, 2015).

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Figure.1The Flow of International Tourism Receipts in to the Economy

Tourism is an aggregate of many businesses related to tourism(S. L. J. Smith, 1989).

As a result, tourism receipts absorb in to the economy through various conventionally defined economic sectors. This flow of receipts (income) creates a variety of economic impacts on the economy. In the tourism economics literature, the term of multiplier has been used to describe the final change in output in an economy relative to the initial change in tourist expenditure(Archer, 1982). Therefore, the size of the multiplier is critical indicator of the economic impact of tourism(Ennew, 2003). However, as pointed out by Fletcher(1989), tourism impact analysis is very complex since the tourism sector operates in a somewhat different way. Its operation could not be defined based on its production or the output since there is no active production process and an identifiable output as such. Rather, it should be defined based on what tourists purchase (on the demand side) while visiting a destination. Therefore, the tourism sector is defined based on its purchases of different components of composite tourism product from other sectors(Fernando et al., 2015). These components include accommodation, transport, food, entertainment and other components of the tourism product from relevant sectors. Once the tourism sector combines its related activities as a composite product, it is only sold to visitors. Unlike conventional sectors, this sector does not sell the output to other sectors as intermediate input and neither does this sector purchase primary input factors(Fernando, 2015; Fernando et al., 2015).

## 3 An Overview of the Model

This section provides an overview of the CGE–Tourism of an economy.

3.1 The Theoretical Structure of the Model

The CGE-Tourism closely follows the theoretical structure of the well-known ORANI-G model(Dixon et al., 1982; Mark Horridge, 2003; Mark Horridge, Parmenter, & Pearson, 2000)of the Australian economy by extending it to include thr tourism sector. Like ORANI-G, CGE-Tourism is a Johansen class(Johansen, 1960)CGE model which is solved by representing the economy as a series of linear equations incorporating percentage changes in model variables rather than an equations system in level form. The use of linear percentage change form of the model instead of linear equations can be explained as follows.

Rather than writing

*Y = f (X1, X2) (5.1)*

where *Y* is output and *X1* and *X2* are inputs, the linear percentage change form of the model can be written as

*y – ε1 x1 – ε2 x2 = 0*

where *εi* is elasticity of output with respect to inputs of factor *i*, and *y*, *x1* and *x2* are percentage changes in *Y*, *X1* and *X2*. This approach owes its origin to Johansen (1960). In matrix form, Johansen model is represented by

*Az = 0,*

Where, *A* is a matrix of coefficients and *z* is the vector of percentage changes in the model’s variables. Since the matrix *A* is assumed to be fixed, it provides only a local representation of the equations suggested by economic theory.

The CGE–Tourism is a typical comparative static CGE model. It consists of the following groups of equations describing for some time period:

- Producers’ demands for produced inputs and primary factors;

- Producers’ supplies of commodities;

- Demands for inputs to capital formation;

- Household demands for final goods and services;

- Export demands;

- Government demands for final goods and services;

- The relationship of basic values to production costs and to purchasers' prices;

- Market-clearing conditions for commodities and primary factors;

- Some equations to describe macroeconomic variables and price indices.

The equations of the model are derived from microeconomic theory based on neo-classical assumptions about the behaviour of price taking agents. Consumers maximize utility subject to their budget constraints. Producers chose inputs so as to minimize production costs, with both product and factor markets assumed to be perfectly competitive. Production technologies are characterized by nested production functions with constant elasticity of substitution and Leontief nests at different levels. Finally, prices adjust in goods or services and factor markets to equate demand and supplies. In common with any other ORANI type CGE model, the CGE-Tourism model is developed to perform comparative-static policy simulations and it contains equations and variables which refer implicitly to the economy at some future time period(see Mark Horridge, 2014 p.2.). These policy simulations attempt to answer “what if” questions. For example, they attempt to answer questions like if tariffs are reduced by 10 per cent on a range of commodities in an economy, how much different would the economy be in 5 years’ time from what it would otherwise have been?"(see 1996; J. W. Harrison & Pearson, 1994, p. 4 p.4.)This interpretation is demonstrated by Figure 2.

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Figure 2: Results Interpretation of a Comparative Static CGE Model

Source: Adapted from(1996; J. W. Harrison & Pearson, 1994)

As shown in Figure 2 the initial (pre-simulation) solution and data base as representing the state of the economy as it would be in (say) T years' time with no tariff change. The new (post-simulation) solution represents the state of the economy as it would be in 5 years' time with reduced tariffs but no other policy changes. For employment, say, A might be its value now, B its value in 5 years' time with no tariff change and C its value in 5 years after the tariff reduction. In our comparative-static simulation, the percentage change in employment would be [(C – B)/B] x 100, showing how employment in 5 years would be affected by the tariff change alone.

### 3.2 Implementing the Model

The CGE-Tourism is implemented using the GEMPACK software suite(Harrison & Pearson, 1996; J. W. Harrison & Pearson, 1994)– a flexible system for solving CGE model. Presenting equations of the theoretical structure of CGE-Tourism is organized around the *TABLO* file which implements the model in GEMPACK. The TABLO input file of the model is an algebraic specification of the linear form of the model and the equations are organised into a number of blocks. The *TABLO* input file is divided into a sequence of excerpts. As Horridge (2014, p.7) has explained, “the *TABLO* language in which the file is written is essentially conventional algebra, with names for variables and coefficients chosen to be suggestive of their economic interpretations”. The *TABLO* notation is no more complex than ordinary algebraic notation and both the input and the output of the CGE model’s programs employ the *TABLO* notation. A detailed discussion of *TABLO* language is given in GEMPACK manuals (Harrison and Pearson, 1998; Horridge, 2000 and 2014). The CGE-Tourism TABLO, equations and description closely follows Horridge (2014).

### 3.3 Dimensions of the Model

The CGE-Tourism contains xx industries which produce xx commodities including the tourism industry (dummy industry). These are given under *‘IND’* and *‘COM’ “SET”* statements, respectively, as given in Excerpt 1 of the TABLO code of the model. The commodities come from two sources as domestic *(dom)* and imported *(imp)* which are given under the *(‘SRC’)* statement. In addition, we defined Margin commodities under the *(‘MAR’)* statement and tourism commodities under the *(‘INTCOM’)* statement.

### 3.4 Variables and Coefficients of the Model

The model’s equations use a multitude of variables and coefficients and it can be difficult to remember the names of all these variables and coefficients. For ease of reference, the convention of using lower-case letters for percentage change variables and upper case letters for coefficients and parameters is used in this study. Variable names indicate whether they represent value (w), price (p) or quantity (x). Similarly, (a) refers to technical or taste changes, and (f) refers to shift expressions. Variable names also numerically identify each user in the economy: industries (1), investors (2), households (3), exports (4), government (5) and inventory (6).

Excerpt 1: Sets and Subsets in CGE (for example of Sri Lanka model)

Abbildung in dieser Leseprobe nicht enthalten

The CGE- Tourism model follows Horridge (2014) in that it employs the following index and set definitions as seen in Excerpt 1: industries (i,IND); commodities (c,COM); margin commodities (m,MAR); commodity sources (s,SRC). It is also important to note that GEMPACK does not distinguish between upper and lower case. The variables and Coefficients of the CGE-Tourism are listed in Appendix as Table 1 and Table 2 respectively.

## 4 The System of Equations of the Model

The model consists of five groups of equations describing industry demand for primary factors and intermediate inputs, final demand by households, government, investors, and exporters, as well as, pricing structure, market clearing conditions, and miscellaneous macroeconomic conditions. As mentioned before, the equations are divided into a sequence of excerpts. Each equation statement begins with a name and (optionally) a description. In common with other ORANI type CGE models, in the CGE-Tourism model the equation name normally consists of the characters E_ followed by the name of the left-hand-side variable. Except where indicated, the variables are in percentage changes. Variables are in lower-case characters and coefficients in upper case. Variables and coefficients are defined as the need arises.

Although this chapter does not intend to provide all technical details related to the model, as many CGE models based on ORANI-G are standard and well-documented elsewhere(Mark Horridge, 2014), some important sections of the CGE-Tourism model (written in TABLO file) will be presented in sequence with Excerpts of GEMPACK codes.

### 4.1 Input Demands for Current Production

In the Model, each industry is assumed to be perfectly competitive profit and maximises profits. This means that each industry minimizes costs subject to a nested production function with constant elasticity of substitution (CES) technology at the second and third levels and the Leontief technology at the top level. Therefore, the input demand functions for current production are derived from a nested production function with three levels. Figure 3 illustrates the basic production structure of CGE-Tourism.

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Figure 3: Production structure of industries

Source: Adopted by(J. M. Horridge, 2000)

In this nested structure (Figure 3), inputs for industry are combined via a three-stage cost minimization process. In the lower level of the input structure (Stage 1), the producers select the composite labour from a range of occupational labour types using a Constant Elasticity of Substitution (CES) function^{[1]}. At the second level (stage 2), the commodity composite (combination of domestically produced and imported commodities) and primary factor composite are selected; and then the optimal land, capital and composite labour inputs are combined. The commodity composite is selected using a CES function that specifies imperfect substitutability between domestic and imported commodities. The primary factor composite is also a CES aggregation of land, composite labour and capital. At the top level of input functions (stage 3), output is produced by choosing a combination of commodities, primary factors (including land, labour, capital) and other costs. These commodities and factors are combined using a Leontief production function. This implies that they are chosen in fixed proportions.

The upper portion of Figure 3 shows that the output supply decision for each firm is based on a profit maximization process. At Stage 4, constant elasticity of transformation (CET) function is employed to divide the supply of goods between domestic and export markets

#### 4.1.1 Demand for Different Occupational Categories of Labour

Demand for labour input is based on a two-stage cost-minimization process that reflects imperfect substitutability between labour types. As shown in Stage 1of the Figure 3, and also Figure 4, the CES function determines the optimal combination of occupation types to form each industry’s composite labour input.

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Figure 4: Demand for different types of labour

Source: Adopted by(J. M. Horridge, 2000)

The equations determining labour demands are given in Excerpt 2. For each industry i, the equations are derived from the following optimisation problem. The producers choose the combination of labour types to minimise the total labour cost. A CES function solves this problem in which substitutability is allowed between different types of labour.

**[...]**

^{[1]} Due to data limitation, there is only one category of labour. However, this feature of production technology in the model will allow us to introduce different categories of labour when data are available in the future

## Details

- Pages
- 44
- Year
- 2017
- ISBN (eBook)
- 9783668486270
- ISBN (Book)
- 9783668486287
- File size
- 1.1 MB
- Language
- English
- Catalog Number
- v370462
- Institution / College
- University of Kelaniya
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