In our earlier blog, we announced the launch of a new project – running until September 2022 – investigating the impact of the COVID-19 pandemic on Scottish tourism and the wider economy. The project will make use of quantitative scenarios – the focus of our next blog – and will use an economic modelling framework to analyse the effects of these on the wider economy. In this blog, we introduce the modelling approach we will use – specifically, Computable General Equilibrium (CGE) modelling – and explain why these are increasingly being used to examine tourism, and are appropriate frameworks for looking at the economic impacts of COVID on the Scottish tourism industry.
What is a CGE model?
Economic models are used to help us better understand how the world works. They simplify the myriad of complex economic interactions in the real world down into their key elements which are crucial to understand a particular issue.
A CGE model is a large-scale economic framework that captures interactions between industries and consumers in an economy. It represents the production structure of industries, including the supply chain of produced inputs (both domestic and imported), the use of labour (i.e. staff) and capital inputs (i.e. machines, computers etc). It details how outputs produced by industries are sold to other industries, households, government, non-residents and exports.
These two points – detail on the connectedness between specific activities – including tourism – and other sectors of the economy, and details on the sectors that sell to non-residents give a perfect framework in which to examine the economic role of tourism from both a production and consumption perspective.
The CGE model for Scotland that we will use in this project is calibrated using Input-Output national accounts published by the Scottish Government. These annually updated tables – the most recent cover the year 2017 – provide information about the structure of the Scottish economy in the baseline.
The model allows us to perform “what if” scenarios, and to compare the state of the economy with and without a shock, or a set of shocks. Following a disturbance, the model will capture the reaction of economic agents to changes in prices and income.
As it captures the entire economic system – production, consumption, prices, product and the labour market, the model will “translate” shocks, which might be targeted on one individual element to the whole economy to show the consequences of the assumed disturbance.
What is considered as tourism in the Scottish CGE model?
The Scottish national accounts feature tourism in two different ways, which are both consistent with measures of the tourism economy.
First, from the “production perspective”, as economic industries (sectors) that produce goods and services for tourists. The Scottish Government takes this perspective in defining tourism as a growth sector.
Second, as the value in Scotland of goods and services purchased by domestic and international tourists (consumption). Reports of spending by tourists in Scotland, such as those reported by VisitScotland, take this perspective.
There is of course overlap between these two perspectives in the economic accounts: 45% and 27% of the output of the accommodation and food and beverages sectors – which are two of 98 sectors identified in the economic accounts – are sold to international tourists. These same tourists spending in Scotland is focused in these same two sectors, but more than 40% of their spending is outside – in other sectors across the economy.
Tourism-facing industries such as accommodation or food and beverages services are strongly connected with other parts of the economy.
For instance, Figure 1 represents how the output of these two industries is formed. Both industries are labour intensive – almost 40% of the inputs to the sector are for labour costs – and consume a large share of domestic intermediate inputs, which are inputs produced by other industries in the Scottish economy. Imported intermediate inputs come from both the rest of the UK and the rest of the World.
Figure 1. The structure of accommodation and food and beverages services industries
The amount of employment – and the associated income – in different industries is also captured in IO accounts.
Figure 2 shows the labour intensity of all sectors in the Scottish economic accounts – defined as the ratio of employment in Full-Time Equivalents (FTEs) to output (£million) – and the share of sectoral final demand which goes to non-residents. These two values for each sector are shown as a single point in this Figure. (Recall that a sectors total sales to tourists will also include Scottish residents, so this share for non-residents will understate the true importance of tourism demand for a sectors output.)
Figure 2: Labour intensity and share of final demand sold to non-residents, all sectors, 2017
We can see from Figure 2 that both food and beverage services and accommodation sectors have the largest share of their output sold to non-residents (29% and 55% respectively). These sectors are also among the most labour intensive in Scotland – ranked 6th and 16th from the 98 sectors in the accounts.
Figure 3. The composition of domestic intermediate in the accommodation and food and beverages services industries
Figure 3 shows that these two industries are also heavily embedded with other industries in the Scottish economy.
For example, accommodation purchases 56% of its inputs from the services sector (an aggregation based on, for instance financial services, travel agencies, and business services), but it also has links with construction, utilities (energy, water and sewage) and retail.
Relative to the accommodation sector, the food and beverages sector purchases a greater proportion of their input from agriculture, food and fishing industries and from retail (and a lower share from services).
How can the CGE capture the impact of COVID-19 on these industries?
In principle, CGE models can capture the impact of any demand and supply side shocks and the propagation of these on different industries.
The propagation of the impact of the COVID-19 pandemic through the economy is complex as it affects different parts of the economy directly and indirectly.
CGE models capture direct impacts, for instance reduction in restaurant meals purchased, as well as indirect impacts, such as reduction in purchases of agricultural products by restaurants caused by a fall in demand for meals. Furthermore, it captures induced impacts, such as reduced consumption due to lower wage income in the food and drinks and agricultural industries.
In the case of COVID-19, supply and demand shocks are either a direct result of the pandemic, or caused by public health policies aimed at restricting the spread of the virus.
Figure 4 attempts to summarise the main impact channels for the tourism economy. At different times during the pandemic, these channels will be varying in their impact on the economy, for instance with the varying of restrictions on travel in response to changes in the number of cases.
Figure 4. Propagation mechanisms of COVID-19 in the economic system
Direct impacts are reported in the third column, while indirect and induced impacts are reported in the fourth and fifth columns. For instance, sickness and mortality linked to COVID-19 would be expected to lower labour supply and adds costs for firms. Similarly, limitations of social interactions or of travel from home would reduce consumption of tourism activities. These in turn reduce production and income in the economy, particularly in tourist-facing sectors, and causing further reductions in demand.
Under the scenarios which we are currently developing, we will be able to isolate the effect of different disturbances as they cascade through the economic system. Using such scenarios, we can account for the uncertainty around changes in public health restrictions and consumers responses, while preserving the interactions between all parts of the economy.
Of course, there will be other impacts on the economy that are not considered in our analysis – such as disturbances in overseas supply chains – but by focusing on those disturbances which directly affect Scottish tourism we can isolate the critical effects for this sector and the wider Scottish economy. In our next blog, we will set out some of the scenarios to be used in our analysis.
The authors acknowledge funding from UKRI through the “UKRI Ideas to Address COVID-19” call (Grant reference: ES/W001195/1) .