Economic Policies

Economic Policies

Introduction:

Economic policies including fiscal and monetary policies will affect the transport industry, in the United States the modes of transport include air, road, rail and water transport networks, the transport industry provides 7% of total employment in the United States and a high percentage of GDP levels. After September 11 the travel industry experienced a decline in performance.

Supply and demand:

The price in the travel industry is determined by market forces, the market demand and supply will determine the price of services offered, the market will adjust accordingly as a result of shifts and price elasticity of the services offered.

An upward shift in the demand curve in the travel industry will lead to an increase in the equilibrium price; an upward shift in the demand curve may be caused by increased tourism in the country. A downward shift in the demand curve in the travel industry will lead to decline in the equilibrium price. A downward shift in the demand curve may be caused by a national disaster example after September 11 where tourism declined; the diagram below shows the effect of shift in the demand curve:

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From the above chart movement from demand curve 0 to demand curve 1 shows an upward shift in the demand curve, this upward shifts causes the equilibrium price to rise. The movement from demand curve 0 to demand curve 2 shows a downward shift in the demand curve, this leads to a decline in the equilibrium price.

The supply curve is also affected by changes in the supply level in the travel industry, shifts in the demand curve will be caused by increased supply or declined supply level, when the travel industry is more profitable more firms will enter the industry to provide services and this lead to an increase in supply, however when there is stiff competition and the industry is less profitable then firms will exit the industry resulting into a decline in supply, the following chart summarizes the shifts in the supply curve in the travel industry:

The shift from supply curve 0 to supply curve 2 shows a downward shift in the supply curve, the supply curve will shift downwards as a result of increased investment and firms into the industry, this increases leads to a decline in the equilibrium price.

The shift in the supply curve from supply curve 0 to supply curve 1 shows an upward shift in the supply curve, this will usually be as a result of firms exiting the industry, when this happens the equilibrium price rises because demand exceeds the supply level.

Changes in price elasticity of demand and supply:

Price elasticity shows the responsiveness of quantity demanded or supplied as a result of change in price, and increase in price elasticity of demand will lead to a higher declijne in quantity demanded when price increases, all the modes of transports are substitutes and for this reason when the price rises people will choose another mode, therefore when price elasticity increases then the level demanded will decline by a higher magnitude when price rises.

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When price elasticity of supply rises then this means that a decline in the price will reduce the level of supply by a large margin, this is because less suppliers will be willing to provide services at a lower price, however when the price elasticity of supply declines then more suppliers will be still willing to offer services at the lower price. There are other factors that will affect the demand and supply in this industry and this includes income elasticity of demand which depict the responsiveness of demand to a change in price.

Externalities:

Externalities are the benefits and costs that are not fully paid for in the production process, externalities are not included in the cost of production and we have two types of externalities and include positive and negative externalities. Positive externalities are those unpaid for benefits while negative externalities are those costs that are not paid for example pollution.

The travel industry mostly relies on fossil fuels that highly degrade the environment; consumers also experience positive externalities where public means of transport costs may be much lower than the benefits.

Pollution is one negative externality associated with the travel industry, this is for the simple reason that majority of the modes of transport rely on fossil fuels that have contributed to the high environmental degradation, one of the initiative by governments to pay for these costs is through taxation which include tax on these fuels. When source of energy is taxed in this industry then the cost of production increases leading to a rise in prices and therefore decline in demand.

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Poor weather may also hinder proper running of th travel industry, bad weather makes navigation difficult and therefore reduced activities in this industry, birds near airports may also hinder freights and therefore result into loss of income to the travel industry, terrorist attacks may also be viewed as an externality.

Consumers will benefit from positive externalities where public transports are less more cheap than the other modes, this results into an increase in the demand for these modes of transport and contribute toi the growth of the travel industry.

Wages:

Wage inequalities is also evident in the travel industry, some modes of transport will have higher wages than others resulting into increased labor force supply, however other modes will have lower wage rages and therefore less labor supply, those with lower wage rates are forced to increase their wages resulting into increased costs of production. Wage inequality therefore affects the travel industry in a way that in some modes and regions we have insufficient supply of labor.

Fiscal and monetary policy:

The government and monetary policy makers will make decisions that may affect the travel industry, these include increase or decrease in taxes, increased government expenditure and rise or fall in interest rates, we anlyse the policy measures and their effect on the travel industry:

– Fiscal policies:

These are policies by the government and they include expenditure and taxation, an increase in

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government spending on transport infrastructure will have a positive impact on the travel industry, this is because improved transport infrastructure will enable easier accessibility and therefore benefit the travel industry, reduced spending on infrastructure will therefore have negative impacts on the travel industry.

Governments will finance their spending through revenue collected by means of tax, increased income and other forms of tax will negatively affect the travel industry. When income tax is increased then the profitability of the industry declines, however when lower taxes are imposed then the industry will grow. Tax on citizens will also result into a decline in the consumers’ disposable income and therefore demand less of their goods including transport services; as a result of this the performance of the travel industry will decline.

– Monetary policies:

Monetary policies include interest rates and money supply, they will affect the travel industry in a positive or negative way, in the case where interest rates rise then this makes the cost of borrowed funds to rise, this rise in the opportunity cost of borrowing funds will have a negative effect on the industry, this is due to the fact that investment will decline due to high cost of servicing loans, the diagram below shows the relationship between interest rates and investment:

From the above chart it is evident that as interest rates rises then investment decline, as investment declines in the travel industry then less investors will invest and therefore there will be a decline in the supply in this industry or even a rise in the cost of production. When interest rates decline then investment rises and therefore the supply increases in the travel industry, therefore monetary policies aimed at increasing or decreasing the level of interest rates will affect the travel industry.

Money supply in the economy is also determined by monetary policy makers, when there is an

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increase in money supply then the economy experiences inflation, however this increases spending for the consumers and therefore they will demand more in the travel industry, however when money supply decreases in the economy less funds are available to spend, therefore an increase in money supply in the economy will help ythe travel industry to grow due to increased disposable income and therefore increased demand in the travel industry.

Conclusion:

From the above discussion the economy will affect the travel industry. an upward shift in the demand curve will result into increased equilibrium prices and therefore increased growth rate. however a downward shift in the demand curve will result into lower equilibrium prices. Shifts in the supply curve will also affect the industry where an upward shift in the supply curve will result into increase the equilibrium price while a downward shift in the supply curve will result into a decline in the equilibrium price.

Rise in equilibrium price will lead to increased profits and therefore firms will gain higher profits, however a decline in the equilibrium price will mean a decline in profits and therefore less firms will enter the industry.

Monetary and fiscal policies will also affect the travel industry where an increase in government spending on transport infrastructure will improved transport infrastructure while reduced spending will have negative impacts on the industry.

When interest rate rises then the cost of borrowed funds rises and investment decline, when interest rates decline then investment rises and therefore benefits the industry. An increase in money supply increases spending therefore demand will increase, however when money supply decreases in the economy and therefore less demand.

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Therefore it is clear that the economy will affect the travel industry in many different ways, government intervention is required in order to cater for market failure such as externalities which occur in the production process.

References:

Bureau transport statistics (2008) tourism GDP levels over the years, retrieved on 4th July, available at

http://www.bts.gov/xml/tsi/src/index.xml

Economic magic (2008) the travel industry, retrieved on 4th July, available at http://www.econo magic.com/fedbog.htm

Philip Hardwick (2004) Introduction to Modern Economics, Pearson Press, New York

Plunkett research (2008) travel industry, retrieved on 4th July, available at http://www.tia.org/Tr avel/TravelForecast.asp

US government statistics (2008) the tourism and travel industry, retrieved on 4th July, available

at http://www.c ensus.gov/index.html