Budget Hotels In Malaysia

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Abstract: The contribution of tourism sector to the economic development is pretty significant in Malaysia. And budget hotels play important role in tourism industry. Budget hotel is defined as a small hotel that is financed by one individual or a small group of individuals, and it is mangers are the same time its owner. Generally the characteristics of those budget hotels are that the managers do not operate through a formalized management structure. At present budget hotels are relatively few in Malaysia. This study tries to find the reason why there are so few budget hotels in Malaysia. We find that the shortage of budget hotels in Malaysia is due to the reason that positive externalities of budget hotels have not been effectively internalized. Externalities of budget hotels means that the development of budget hotels will attract more tourists and those tourists will bring more value to other sectors. When a positive externality exists in a market, the private marginal benefit curve is less than the society’s marginal benefit curve. With positive externalities, the production and consumption are less than the optimal production to the society. Because the positive externalities of budget hotels have not been effectively internalized, the stimulation for budget hotel owners to supply more budget hotel services is not high enough. Through secondary research, we find that the hotel industry has important influence on the whole tourism industry and the externalities of hotel industry also have significant impacts on the tourism industry. This results means that there is possibility that the budget hotel or other hotels cooperates with firms from other industries and produce more value for customers and for themselves. Furthermore we discuss the needs and wants of budget hotel customers based on Maslow’s theory of human needs, which he named the Hierarchy of Needs. We classify the needs of budget hotel customers into three levels. The first level is safety, the second level is necessary facilities and the third level is the pursuit of happiness. Then we discuss how budget hotels should perform according to the three levels of needs. At last we discuss how a budget hotel is able to control its service quality so as to attract customers and establish customer loyalty. We argue that one characteristic of hotel industry is that the monitoring cost is very high and many behaviors of the servants cannot be easily observed. It indicates that stimulation may be much more important than penalty. Under such a situation, the sense of responsibility is of great importance in the hospitality industry. We argue that the sense of responsibility may arise from good communication between employees.

Keywords: Budget Hotel; Externality; Tourism Industry; Cooperation

Contents 2

1. Introduction 3

2. Objectives of this paper: 5

3. Literature Review 6

3.1 Price Theory 6

3.2 Determinants of tourism demand 8

3.3 Externalities of hospitality industry 9

4. Theoretical Framework 10

4.1 Classical Price Theory and Hotel Price 10

4.2 Externalities of Hotel Price and Cooperation between Industries 11

5. Research Methodology 13

1. Introduction

Tourism is important for the economic development of many countries including Malaysia. The contribution of this sector to the economic development of Malaysia was 37% of GDP in 1970, and increased to 43% in 1980, 47% in 1990 and 53% in 2007 (Abdullah et al. 2011). In addition, the growth rate of this sector has been pretty rapid. The average annual growth rate was 9% during the 1970s, close to 7% in the 1980’s, and 8.5% during the most recently. Figure 1.1 shows this trend with concrete data of arrivals and receipts of tourism industry in Malaysia. The significant importance and the rapid growth rate of tourism industry imply a much greater contribution of tourism to the economic growth of Malaysia. It is expected that the contribution of the services sector to GDP will increase up to 60% by 2020. The Malaysian government has recognized the importance of tourism industry and has placed the development of tourism industry at a very important place. At present, tourism has been designated as a priority sector in the Ninth Malaysia Plan.

Figure 1.1 the Arrivals and Receipts of Malaysian Tourism

The Malaysia government tries to promote the development of this industry. But how could we improve the development of tourism industry? The first attention may be focused on the development of hotels or hospitality industry. The reason is that accommodation fee takes a very important weight in the expenditure of tourists, which implies that the development of hotels will pose great influence of tourism industry. The second consideration is that hospitality industry is related with many other industries. Hospitality industry is a huge industry, including not only hotels but also transportation, restaurants and so on. Without any hesitation, the hospitality industry is related to every aspects of people’s daily life. The correlation between hotels and other tourism sectors indicates that the whole tourism may benefit more if the hospitality industry could cooperate well with other related sectors. Therefore we hold the opinion that to promote the development of hotels and to make innovation in strategies of hospitality industry is fairly important to promoting the development of tourism in Malaysia.

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In this study, we focus on issues related to budget hotels, because budget hotels play important role in tourism industry and the budget hotel industry has not developed very well in Malaysia [1] . According to the existing research, small and mediate enterprises, including budget hotels, are very important in tourism industry and all the business industries. For example, Abdullah (2011) find that firms with less than fifteen employees account for around 79% of all Irish tourism businesses, which is a characteristic of the tourism sector in many other countries recently. Sheldon (1993) find that over 90% of tourist accommodation establishments are represented by small firms in the world. And a similar dominance is reflected within Malaysia where owner operators account for the majority of all hotels. Morrison (1996) argues that the tourism industry has been dominated by the small business traditionally and this is still the fact in 1990s. There are several reasons leading to the popularity of small hotels. The first reason is the low benchmark of entering into the budget hotel sector. It is not difficult to start up a small hotel business and the professional requirements related to this sector are relatively low in with regard to other industries (Lerner & Haber, 2001; Szivas, 2001). The second reason is that demand for small accommodation is high, which enables small hotel providers to offer a wide quality range of products, facilities and special services to the market. The third reason is the flexibility of budget hotels. Budget hotels are small and the small size allows an owner-manager to respond quickly to demand shift and market change. In addition, the costs of budget hotels are relatively low because of the advantage of using family labor (Getz & Carlsen, 2000; Lowe, 1988). Because budge hotels are very important in hospitality industry and hospitality industry is pretty significant for tourism industry, it is necessary for us to make clear the influence of budget hotel on tourism.

Before analyzing the influence of budget hotels on truism industry and discussing the management of budget hotels, we need to make clear the definitions of hotel and budget hotel. A hotel is an establishment providing accommodations and usually meals and other services for travelers [2] . Generally there are several categories classifying hotels. Most often we may divide hotels into two subgroups, including star hotels and budget hotels. According to the view of Kim and Mauborgne (1997), there are two market segments in the budget hotel industry and the star hotel industry. Star hotels are generally more expensive than budget hotels while providing more services. Most star hotels have some amenities under certain star rating system, which usually includes private bathroom, color TV, telephone, air conditioner, refrigerator, safety deposit box, daily maid service, 24 hours front desk. The lowest level of star hotels is the one-star hotels, which are the most basic hotels providing all the basic amenities for all star hotels. But the rooms of one star hotel are relatively small. Some one-star hotels even do not provide refrigerators and safety deposit boxes. Budget hotels cannot be classified into those standard star rating systems and they are characterized with low price while providing less facilities. Generally these hotels do not offer ancillary facilities on top of the standard basic accommodation facilities. Maybe they are not clean enough, safe enough and do not supply something that you consider as essential for your stay. But many of the budget hotels have their own characteristics which depend on the operation of its managers.

But the definition shown above is generally used in other countries than Malaysia. In Malaysia, budget hotels may provide better services than one-star hotels. For example, Malaysia Budget Hotel Dot Com (MBHDC), is an organization uniting some budge hotels, and it specializes in providing “high quality and lowest price budget hotels in Malaysia (3 Stars and below)” [3] . In the understanding of this organization, cheap hotels, youth hostels, low cost resorts, motels, guesthouses and rest houses are all in the category of budget hotels. Based on the definition of Morrison (1996) on a small tourism business, we may define a budget hotel as a small hotel that is financed by one individual or a small group of individuals, and it is mangers are the same time its owner. Generally the characteristics of those budget hotels are that the managers do not operate through a formalized management structure. It is not affiliated to an external agency on a continual basis for at least one management function. In addition, it is small in terms of physical facilities, service capacity, and number of employees.

The main purpose of this paper is to evaluate the influence of hotel industry on the whole tourism industry, and to explore the possibility of making innovations in budget hotel industry, which may improve the development of tourism industry of Malaysia. This study tries to find the reason why there are so few budget hotels in Malaysia. We interpret this phenomenon with theories of price and externalities. It is found that the reason for the lack of budget hotels is that the positive externalities of budget hotels have not been effectively internalized. Externalities of budget hotels means that the development of budget hotels will attract more tourists and those tourists will bring more value to other sectors. Because the positive externalities of budget hotels have not been effectively internalized, the stimulation for budget hotel owners to supply more budget hotel services is not high enough. Through secondary research, we find that the hotel industry has important influence on the whole tourism industry and the externalities of hotel industry also have significant impacts on the tourism industry. This results means that there is possibility that the budget hotel or other hotels cooperates with firms from other industries and produce more value for customers and for themselves. Furthermore we discuss the needs and wants of budget hotel customers based on the theory Maslow’s levels of human needs, which he named the Hierarchy of Needs. Then we discuss how budget hotels should perform according to the three levels of needs. At last we discuss how a budget hotel is able to control its service quality, attract customers and establish customer loyalty.

2. Objectives of this paper:

Defining budget hotel and compare different concepts.

Analyzing the influence of budget hotel price on tourism;

Understanding customer’s wants and needs in relation to budget hotel accommodation;

Investigating quality and methods to retain customer in budget hotels;

Analyzing principles establishing brand loyalty for budget hotels.

3. Literature Review

3.1 Price Theory

This study tries to find reasons why there are so few budget hotels in Malaysia. Because the supply of budget hotels is adjusted by price in a market economy, we need to use a proper price theory to explain this economic phenomenon. Therefore we need to select a best price theory that is able to help us to gain deep understanding about the shortage of budget hotels in Malaysia. Economists have for a long time been aware of the importance of price and try different ways explaining the mechanism of price formation. The existing economic thoughts on price are so rich and colorful that we often feel confused when evaluating different kinds of price theories. The evolution of price theory can be classified roughly as three classes, including Marx’s theory of value, economic price theory and accounting theories of pricing.

In order to understand the evolution of price theory, we need to start thinking from the exchange behavior. The reason of choosing exchange behavior as the starting point is that exchange is the foundation of the market economy. Exchange behavior is the most common phenomenon in a market economy. In fact there is no price if there was no exchange. But why do we exchange with others? Intuitively, we can get more utilities through exchange. In the process of exchange we can get something useful from others, at the same time we must be able to provide something useful for others. Otherwise the deal cannot be done. The great classical economists like Adam Smith and Karl Marx had paid much attention to exchange behavior. In his famous book “An Inquiry into the Nature and Causes of the Wealth of Nations” Adam Smith (1776) wrote down the following words, which have been quoted by numerous economists.

Man has almost constant occasion for the help of his brethren, and it is in vain for him to expect it from their benevolence only. He will be more likely to prevail if he can interest their self-love in his favor, and show them that it is for their own advantage to do for him what he requires of them. Whoever offers to another a bargain of any kind, proposes to do this. Give me what I want, and you shall have this which you want, is the meaning of every such offer; and it is the manner that we obtain from one another the far greater part of those good offers which we stand in need of. It is not from the benevolence of the butcher, the brewer, or the baker that we expect our dinner, but from their regard to their own interest. We address ourselves, not to their humanity but to their self-love.

Smith saw the pretty positive aspect of the market economy of compelling people to cooperate with each other through exchange. Smith recognized that to propose an exchange is intending to show other people that your goods or service is useful to them. When you finished exchange, it means the other person recognizes that your goods or service is of value. Exchange can be considered as the fundamental factor of the market economy.

Karl Marx does provide a special way explaining value and price although Marxism is generally considered a way of engaging and transforming social reality (Tinker, 1999). Marx’s theory of value is based on the analysis of exchange behavior. Karl Marx started his analysis on capitalism from the definition of commodity which was obtained from his analysis of exchange behavior. According to Marx commodities are the fundamental units of capitalism and capitalism can be viewed as a form of economy based on the intense accumulation of such objects (Bourguignon, 2005). He also pointed out “A commodity is, in the first place, an object outside of us, a thing that by its properties satisfies human wants of some sort or another” (Karl Marx, 1887). After noting that commodity exchange, Marx turned his attention to the question: why we are able to exchange two different products? His answer is that there must be comparable thing between the two different products. Therefore people are able to decide the exchange ratio based on the amount of the “comparable thing” in the two different products. If this is true, then what is the comparable thing? Marx thought it is labor [4] . Although different products have different uses, they are all made through labor. The labor contained in a product is the value of this product. If one product cost more labor, then this product is more valuable. This is a perspective from cost. This analysis is reasonable at that time, but when the productivity becomes so advanced that a lot of different factors besides labor, such as technology and management skill, begin to make greater contribution to production, Marx’s theory of value is hardly able to interpret various complex economic phenomenon.

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Then another class of price theory was developed and become more attractive. That is the price theory based on the concept of “utility”. The framework of utility-price theory became well established when Economics went into the 20th century with the development of mathematical analysis (Sandmo, 2010). A lot of economists moved their interest from cost perspective to equilibrium perspective when analyzing the price formation mechanism. In this framework the price of a commodity is decided by the equilibrium of demand and supply. Demand of a product reflects the utility of a certain product to some consumers, while supply reflects the cost of producing this product. If supply superiors demand, then price will go down. The result is a lower supply and more demand, which may lead to equilibrium between supply and demand. If demand superiors supply, then price will go up, which results in more supply and less demand. Equilibrium between supply and demand is also possibly to be realized (Mankiw, 2004). The price at the equilibrium is the equilibrium price. This price theory is widely accepted and applied to explain different kinds of price fluctuations.

The neoclassic equilibrium theory of price is mainly static, which is hard to explain some modern price formation process, for example financial asset pricing. As the development of productivity, mainly the development of financial techniques, some new price theory taking time and future into account is necessary. Therefore a new class of theory, the core of which is the calculation of present value, has been developed to meet this demand. The theory argues that the value of an asset is decided by the future cash flow that this asset is able to bring (Jones, 2006; Thomas and Ward, 2009). And this theory has been applied widely to the pricing of financial or other kinds of asset.

Because the entering benchmark of budget hotels is very low, the supply of budget hotel is mainly decided by demand. And this problem is not a dynamic pricing issue. Therefore, the neoclassical price theory is the best to be used to explain the shortage of budget hotels.

3.2 Determinants of tourism demand

Because the supply of budget hotel is mainly decided by demand, we need to know more about determinants of tourism demand and know how to forecast the demand. It has been widely recognized that accurate forecasts of tourism demand is pretty helpful for managerial decision making. Archer (1987) argues that in the tourism industry “the need to forecast accurately is especially acute because of the perishable nature of the product. Unfilled airline seats and unused hotel rooms cannot be stockpiled”. Some scholars, such as Edwards (1985), publish some predictions for certain countries. There are also some organizations in the tourism industry that publish confidential predictions on tourism demand. There are a lot of review articles on tourism demand up to now, including Crouch (1994),Witt and Witt (1995), Lim (1999), Li et al. (2005), and Li and Song (2008). According to the reviews, the methods applicable to analyzing the influence of the determinants of tourism demand are relatively limited. Multiple regression method is the main methodology in this analysis (Witt and Witt, 1995). Tourist visits may happen for several reasons, including holidays, business travel, visiting friends or something else.

The majority of existing studies of tourism demand analyze either total tourist trips or just holiday travel, with only a few concerning on business travel. In the empirical literature, tourism demand is generally measured by the number of tourist visits from an origin country to a foreign destination country (for example, Turner & Witt, 2001; Kulendran & Wong, 2005; Coshall, 2005; Rossello, 2001). An alternative measure is the tourist nights spent in the destination country. The third measurement is the expenditure of tourists in the destination country (such as Li, Song, & Witt, 2004, 2006; Li, Wong, Song, & Witt, 2006). But up to now there has not been a best method for tourism demand analysis (Li and Song, 2008). With regard to the researched countries, USA, UK, and France are the most popular researched countries while the research on Malaysia is very limited.

The quantitative literature on tourism demand can be divided into two classes, including non-causal time-series models and the causal econometric methods, the difference between which is whether the model identifies any causal relationship between the tourism demand and its influencing variables (Li and Song, 2008). The causal econometric methods are useful for the present study. In the review of Li and Song (2008), there are 121 empirical papers on tourism demand in total. Among those literature, 72 used the time-series techniques to model the demand for tourism, while the others employ econometric techniques analyzing the causal relationship between tourism demands and explaining factors.

3.3 Externalities of hospitality industry

One major hypothesis of this paper is that the shortage of budget hotels in Malaysia is due to the reason that the externalities of budget hotel have not been well internalized. An externality is “a cost or benefit that is not transmitted through prices or is incurred by a party who was not involved as either a buyer or seller of the goods or services causing the cost or benefit” (Bishop, 2012). We can understand externality as a consequence of an economic activity that is experienced by unrelated third parties. We can classify externalities into two categories including positive externalities and negative externalities. An example of the negative externality is pollution. A negative externality happens when an individual or firm does not need to pay the full cost of its production. If a good or service has a negative externality, it implies that the cost to society is larger than the cost paid by consumers. Because consumers make consumption decisions according to their own conditions, meaning they try to make their marginal cost equal to their marginal benefit, without considering the cost of the negative externality, negative externalities will cause market inefficiencies where too many goods or too much service are produced. A positive externality occurs under the situation that an individual/firm makes a decision without receiving the full benefit of production. The benefit to the individual/ firm is less than the total benefit to the society. Therefore when a positive externality exists in a market, the private marginal benefit curve is less than the society’s marginal benefit curve. With positive externalities, the production and consumption are less than the optimal production to the society (Mankiw, 2011).

There has been a lot of literature discussing the impacts of externalities on different industries or economic activities. For example, Katz and Shapiro (1985) provide an analysis on the influence of externalities on the competition in several important markets. They find that if there are externalities, then consumers’ expectations can influence the structure of the market equilibrium in their model. Azariadis and Drazen (1990) find that externalities can influence the accumulation of human capital. Henderson (1997) employs panel data for five capital goods industries and estimates dynamic externalities. He concludes that externalities pose significant influence on capital goods industries. Warziniack et al. (2009) develop a general equilibrium model measuring welfare effects of taxes for correcting environmental externalities and evaluate the impacts of externalities arising through exports. They find that externalities from exports are resulted in a number of sources. They argue that taxes on the sector imposing the environmental externality often presents more negative effects than positive effects. There are many other literature studying the influence of externalities on other aspects of an economy, such as Devereux et al. (2007), Acharya and Volpin (2010) and Foster (2012). But there have been few papers on the externalities of hospitality industry on the development of the whole tourism industry.

Most of the researches on externalities in tourism industry are related to city planning, location setting or taxes. For example, Chang et al. (2011) analyze the congestion externalities caused by tourism expansion and the wealth effect generated by the revenues from overseas tourism taxation. Schubert (2010) studies optimal taxation (subvention) when tourism is associated with multiple externalities. Chao et al. (2004) examine the welfare effect of tourism on the host economy. They identify three channels influencing domestic welfare by tourism, the most important one of which is the social externality accompanied with tourists. Calveras and Vera-Hernández (2005) place great emphasis on the presence of quality externalities among hotel establishments when they explore the role played by the tour operator in quality investments. These existing researches are helpful for my analysis of the externality effect of hospitality effects on the whole tourism industry and the welfare of local residents in Malaysia.

4. Theoretical Framework

4.1 Classical Price Theory and Hotel Price

Pricing is an art. How to set the price of a good at the best level and achieve the most profits is a hard challenge for any manager in any business field including the hospitality industry. According to the classical price theory of Economics, price is related to two aspects of goods and services: supply and demand. Price has a positive relationship with the supply of goods and services. The reason is that profits would be thick if price if high. As a result of the thick profit, more and more firms will enter this industry and supply more goods and services. At the same time, price has a negative supply with demand of goods and services, because a high price means a high cost of consuming the goods or service for the consumers. The positive relationship between price and supply and the negative relationship between price and demand implies that an equilibrium market state will finally be realized. Market equilibrium means that supply and demand of goods and services are equal to each other. The price at the equilibrium state is named “equilibrium price”. When price is higher than the equilibrium price, it means that demand is larger than supply. At this time, firms will provide more goods or services and price will go down. Similarly, when price is lower than equilibrium price, supply is larger than demand. Then firms will supply less because of the low profits, as a result of which price will go up. This theory fits the normal goods market the best, while remains limited exploratory power for luxury goods market and some other markets. Since hotel is a normal goods instead of luxury goods, the classical price theory in Economics is useful in the studying the price of budget hotel.

In this paper one our main objectives is to analyze the influence of hotel pricing on the whole tourism industry. In order to answer this question we mainly analyze from the demand perspective, which means that hotel price influences the demand of hotels and the demand of tourism. The reason is that accommodation fee is the majority of tourism expenditure for most of the tourists. If hotel price is too high, fewer tourists will come and the demand for hotels becomes lower. And there is a second perspective that hotel price also influences the welfare of local residents. If the hotel price is set to be very low, then the profits of the hotel and the wage of local workers must be low, which implies that the welfare of local residents is low. As a result, there must be a best choice of price which is able to maximizing the welfare of local residents, and a best price that maximizes the profits of hotels.

Price

Quantity

Supply Curve

Demand Curve

Figure 4.1 Classical Price Theory

4.2 Externalities of Hotel Price and Cooperation between Industries

But there is a difference between the best price for local residents and the best price for hotels. The best price for hotels should be the one that is able to maximize the profits of hotels. This price is not necessarily the price maximizing the welfare of local residents. The price maximizing the welfare of local residents is the one that maximizing the gross income instead of profits of hotels.

The difference between hotel’s best price and local residents’ best price exists because of the externalities of hotels. An externality (or transaction spillover) is “a cost or benefit that is not transmitted through prices or is incurred by a party who was not involved as either a buyer or seller of the goods or services causing the cost or benefit”. The externalities of hotels can be understood as the influence of hotel price on other sectors or industries. For example, if the hotel price decreases, then more tourists will come to Malaysia for sightseeing because of the cost becomes lower. More tourists imply more demand for local restaurants, entertainment industries and some other sectors. Similarly, if hotel price increases, fewer tourists will choose to spend their holiday in Malaysia and the local restaurants and entertainment or other industries would benefit less from tourism.

Price

Quantity

Supply of Hotel

Demand of Hotel

Demand of Tourism

Figure 4.2 Externalities of Hotel Price

The logic of externality indicates that if the hotels and other sectors could cooperate well, the whole tourism industry would benefit more from the increase of tourists. Imagine that if the hotel price is set to be lower than the present level, which will attract more tourists and those more tourists may bring more spending on local goods and services. Those incurred spending may compensate the loss of hotel revenue. It means that the total benefits of local tourism increases although at the cost of hotel revenue decrease. A good cooperation between the hotel industry and other industries means that other industries are able to transmit part of the incurred revenue to hotel industry and share the increased revenue with hotel industry.

There are some examples illustrating this good cooperation in tourism industry. In some states of Malaysia, the scenic spots are free and tourists do not need to pay gate tickets. The loss of tickets income leads to higher income of ot

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