Tuesday, 11 May 2010

Guest post by Anne O'Brien: Reconstructing the Tourism Economy

Anne O'Brien: The volcanic ash crisis is not the only problem facing the Irish tourism industry this summer. Other, less dramatic and less publicly discussed problems exist, which will fundamentally influence if or how the sector recovers following the crisis post-2008.

The twentieth year of impressive continuous growth for the Irish tourism sector was marked in 2007. While in the late 1980s tourism arrivals were at 2.4 million, the industry employed 69,000 people, and revenue earnings were £1,153 million (€1,459 million) (Bord Fáilte, 1992) by 2007 tourist arrivals achieved a peak of 7.7 million, the industry employed 322,000 people and revenue earnings were €6.45 billion (Fáilte Ireland, 2008).

However, in the latter part of 2008 Irish tourism collapsed dramatically. The decline began in the third quarter with 174,000 less overseas visitors travelling to Ireland. In total overseas visits to Ireland decreased by 4% in 2008, despite a growth of 2% in world arrivals. Nonetheless, a total of 7,435 million overseas visitors came to Ireland in 2008 and 8,339 million domestic trips were taken, tourism contributed €1.5 billion in taxes in 2008 of which €1.1 billion was from foreign visitors (Fáilte Ireland, 2008). In 2009 the decline continued and the total number of visitors to Ireland was down by 11.6% to a total of 6,927 million (CSO). Business trips were down 20.5% (and spending down 25%). Overnights in hotels were down 19.7% (Guesthouses and B&Bs 20.6%) Total earnings from tourism were €3,879 million (CSO).

The crash has impacted in particular on the hotel sector, in part because accommodation constitutes a large proportion (28% in 2009) of the tourist spend in Ireland. Also the domestic market was heavily hit by the Irish recession, and the hotel sector had become increasingly dependent on the domestic market in recent years. In 1997 the domestic market accounted for just 46% of all hotel guest-nights, by 2008 this figure had risen to 65% of all guest-nights (Howarth, Bastow Charleton, 2008 & 2009). For hotels, lower demand was thus a problem but this was further aggravated by massively increased room stock capacity, which was at its highest level ever (58,467 rooms in 905 hotels). Since 1997, over 30,000 additional rooms and 480 new hotels had been built, representing an investment of €4 billion, and room stock had increased by 98.7% over the previous ten years (Howarth, Bastow Charleton, 2008).

Investment in the hotel sector grew after 1987 when the Business Expansion Scheme introduced tax incentives for tourism facilities, including accommodation. Between 1996-2006 the number of rooms doubled from 26,000 to 52,000 (Fáilte Ireland). In 2007 “the conclusion of the building boom in hotels brought over 8,000 new rooms to the hotel stock” in that year alone (Howarth, Bastow Charleton, 2008). Since 2003 the number of hotel rooms grew more rapidly than demand but the domestic market maintained occupancy until the crash in 2008 when the level of oversupply became obvious. For over a decade investment in Irish hotels came, not from sound fundamentals within the sector, but from the existence of capital tax allowances.

The Bacon Report in November 2009 outlined how hotel-construction tax breaks had distorted the market, by generating an oversupply of rooms. Accelerated tax allowances had been available for investment in hotels since the Finance Act 1994 and only terminated in 2006. Under the incentives investors in hotel property development could claim 15% of the capital cost of a hotel for each of the first six years of operation and the remaining 10% in year seven, against tax liability.

The Bacon Report details the vested interests that gained from these incentives by outlining a scenario where a developer applies for planning for a mixed development. As part of the planning process planning authorities would request the inclusion of a hotel development – on the basis that tourism is promoted, local employment provided, development levies are paid to the local authority, the hotel is a basis for rates payments to the local authority and the hotel constitutes a facility for local residents. The developer subsequently allocates some land and plans for a hotel with, for instance, 50-60 rooms and a construction cost of €10 million. He or she can maximise the ‘cost’ of the hotel end of the development and in this way get the tax incentive on access infrastructure costs. The developer and some ‘high net worth individuals’ with large tax liabilities for the following 7 years, fund the €10 million. In return the investors will get tax allowances of €4.2 million, and agree to fund the developer €2.1 million. The remaining €7.9 million is funded by borrowing from a bank on an interest only basis (in the investors names but with no recourse to other assets). The hotel is built and leased to an operator, often as part of an international chain franchise. (The lease income is used by the developer to pay the interest on the bank loan). The tourism development agencies support this arrangement because the accommodation base is ‘strengthened’. The exchequer supports it because it raises new taxes. The banks get to provide a loan to ‘high net worth individuals’ ‘secured’ on a property. By 2008-09 the banks had €7 billion in loans to the hotel sector. At the end of the 7 years of tax relief the hotel and loans are transferred back to the developer or sold for a profit. The general idea is that “Unless property prices fall sharply, the sale will raise sufficient funds to pay the loan and provide a profit to the developer” (Bacon, 2009: 39-40).

As Bacon comments “None of these decision makers expect to experience a downside and so none of them examine the fundamentals of the hotel industry in order to question the justification of the investment” (2009: 39-40). The final result of the tax incentives was that there were 26,802 new rooms added to the register in the period 1999-2008, with an estimated total investment of €5.2 billion and debt of €4.1 billion, most new hotels had on average been insolvent since 2002, and the situation was particularly bad in respect of hotels constructed between 2005 and 2008 (These comprise 217 hotels with about 15,600 rooms) (Bacon, 2009:ii- iii). The Bacon Report bluntly stated with regard to tax relief based investment that “it was categorically not driven by the fundamentals of the hotel industry… the investments never made sense from the point of view of operating hotels and would have been insolvent if market conditions had stayed as they were at the time of the investment” (2009:ii- iii).

The Bacon report offers a solution of sorts to this problem, which involves the ‘removal’ of between 12,300 and 15,300 rooms from the market. However Bacon further proposed that ‘barriers to exit’ for insolvent hotels should be removed “without disadvantaging the initial investors… capital allowances that have already been claimed in respect of any hotel should not be subject to any claw back by the Revenue… (2009:iv). While Bacon claims that ‘The costs to the Exchequer of removing this barrier to exit would be zero given the situation that has arisen’ (2009:iv), in a previous post on progressive-economy.ie, Pentony argues that the total potential loss to the Exchequer amounts to a bail-out for developers and adds up to over €1.5 billion. Allowances yet to be claimed have an estimated value of €527 million and allowances already claimed, have a value estimated at €1 billion.

Against this backdrop, as part of the Government’s framework for Sustainable Economic Renewal Building Ireland’s Smart Economy, a Tourism Renewal Group was appointed by government to work on a development plan for tourism for the five year period 2009-2013. The report noted that Irish tourism has the capacity, if supported and developed, to deliver as part of an export-led economic recovery but the Chairman outlined a number of issues and priorities, which needed to be urgently addressed. These included maintaining investment in the brand, cutting access costs, providing access to working capital, maintaining state agencies and acknowledging nationally the role that tourism can play in economic renewal. The report set out a number of different scenarios for recovery and the ‘realistic scenario’ illustrated what could happen if the right steps were taken against a ‘challenging’ background. This Scenario

• Sees overseas tourists stabilising at 2009 levels and returning to growth by 2011 with modest growth of 3 to 4% per annum linked to 7.5 to 7.9 million arrivals by 2013.
• Revenues from these tourists would fall in 2009 and 2010 but would show modest growth in 2011-13.
• With regard to domestic tourism the report sets a target for growth by 2011-12 and a target of 8.3 million trips by 2013.

Mid term actions for recovery focused on key issues such as putting tourism at the heart of government, increasing the knowledge and innovation base of the industry, more marketing, retraining, sustaining investment in the tourism product (strangely investment in accommodation is still included), securing more World Heritage Site designations, more e-commerce, focusing on leisure and business tourism, making access easier for tourists, keeping costs low and easing ‘the burden of regulation’(TRGR, 2009).

While Bacon comments that even if the group achieves its objective the growth signalled will not be enough to maintain many existing hotels, nonetheless there are some grounds for optimism. The UNWTO documents that while international tourist arrivals declined worldwide by 4% in 2009 this can be interpreted as a sign of comparative resilience when compared with the estimated 12% slump in overall exports (2010: 1). Moreover, in the last quarter of 2009 growth of 2% was recorded in international visitor numbers and the UNWTO forecast global growth in international tourist arrivals of between 3% and 4% in 2010. In an Irish context Howarth Bastow Charleton’s Hotel Survey for 2008 noted that effectively targeting business tourism will assist in alleviating some of the difficulties that the industry is facing. The introduction of the National Conference Centre to Dublin in 2010 was expected to create up to €50 million per annum for the economy and €1billion by 2012.

However the TRG report needs to get to grips with some fundamental problems within Irish tourism, which have existed since the early 2000s, and which don’t simply concern volcanic ash. As outlined above, there is a structural issue with the hotel sector - average room occupancy rates have been declining since 2000, and there’s a surplus in supply that needs to be addressed. The political dynamics that underpinned the prolonged use of tax relief to incentivise private sector investment in an overdeveloped hotel sector needs to be examined so that it is not repeated. Cost competitiveness in Irish tourism began to deteriorate in the early 2000s. The industry claims this is due to relatively high labour costs, high domestic inflation and the strength of the Euro against the dollar and sterling (ITIC, 2008:3). Increasingly in media discourse of late the minimum wage (rather than, for instance, profit levels in the sector) is cited as central to the problem. This common misunderstanding continues despite TASC’s report ‘A Square Deal’ which points out that the abolition of wage agreements for restaurant workers will only heighten inequality and depress consumer demand and that removing wage agreements for restaurant workers would mean a reduction of just 61 cent per customer for a meal costing €60 for two.

A more relevant issue is signalled by Fáilte Ireland, which noted that visitor satisfaction with value for money declined consistently since 2000 when 63% of visitors found value for money in Ireland good or excellent, this declined to 45% in 2002 and to 16% by 2007 (Fáilte Ireland 2003 & 2007). A further fundamental problem is that there has been a serious lack of innovation and development of the tourism product in the last decade or two (which was not subject to the same tax incentive scheme as hotel development). However possibly most centrally, there appears to be a problem with the politics of tourism development. It has been generally accepted that the main driving force behind the major success of Irish tourism over the past 20 years was the private sector. And while agencies like ITIC and the IHF were undoubtedly key in the past, there’s a central need now for the state and its agencies to act not merely to protect the sector but rather to redirect its efforts and agencies to more effective ends, namely to generate a developmental growth strategy for the sector- one preferably not premised on the demise of the minimum wage!
Dr Anne O’ Brien is an academic co-ordinator with Kairos Communications Ltd. for Media Studies programmes at the School of English, Media and Theatre Studies in NUI Maynooth

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