Taxing tourism: enhancing or reducing welfare?

Using a modified simple general equilibrium model of international trade, the theoretical construct proposed by this research note shows that taxing tourism may increase or decrease economic benefit depending on the destination's market power. Yet, from a social point of view, taxing tourism can be welfare-enhancing, as externalities of rapid tourism growth should be internalized. Therefore, a social rather than a private optimum should be pursued via taxing tourism in order to guarantee sustainable tourism. From political economy perspectives, however, the actual taxation policies may not be welfare-enhancing, as they heavily depend on the political system and power relations in the destination. Keywords: externalitiesgeneral equilibrium modelmarket powersocial optimumsustainable tourismwelfare Notes 1. A composite good is an abstraction used in economics that represents all consumption goods besides the one in question. 2. PPF shows the different quantities of two goods that an economy could efficiently produce within limited productive resources. 3. The real tourism revenue is the amount of tourist spending that remains locally after profits and wages are paid outside the area and after imports are purchased. The amounts to be subtracted are called leakage, which is required to build up and maintain the necessary tourism infrastructure. 4. Dutch Disease refers to the phenomenon that the tourism sector expands at the expense of other sectors, especially the decline of the manufacturing sector. This leads to de-industrialization and mono-structure, finally resulting in over-reliance and high risks for a small open economy. 5. An alternative way of explaining this is that without tourism taxes tourism may be in oversupply from a social point of view by too much PP′, and it will bring about a pure loss of social welfare by so much as (a′cd′). One can figure out the net gain (a′cd′) as an alternative utility-cost difference. The benefit from reducing tourism supply is the saved externalities: aa′cc′ + ab′cd′ (= aa′bb′cc′dd′a + abcd). The cost of this reduction is the lost benefit that would otherwise have been captured by the demand and supply sides (or the deadweight loss from imposing taxes): abb′cc′da. Then, the benefit-cost difference is aa′b + add′ + abcd (= a′cd′).