Overcapacity of the US Lodging Industry: The Effect of Uncertainty and Incentive to Overbuild

Despite the frequent recognition by the literature on oversupply in the US lodging industry and its adverse effect on industry performance, the academia is yet to provide a clear explanation on when the oversupply has actually taken place, and if so, by how much. Observing that the difficulty in evaluating capacity level arises from lack of clear definition on optimal capacity, the current study proposes a supply-demand equilibrium framework to understand the optimal capacity of the US lodging industry that maximizes revenue. Analysis of industry data between 1987 and 2010 revealed that the US lodging industry has been in, on average, overcapacity throughout the sample period. Furthermore, it is observed that imprecision in forecasting provides incentive for the industry to maintain some overcapacity, while considerable historical overcapacities are likely to be outcomes of unexpected demand shocks.