AJAE ajae˙1112 Dispatch: October 24, 2007 CE: OQV Journal MSP No. No. of pages: 18 PE: Alison 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 26 27 28 29 30 31 32 33 34 35 36 37 38 39 40 41 42 43 44 45 46 47 48 49 50 51 52 53 54 55 56 57 58 DIFFERENTIATION AND SYNERGIES IN RURAL T OURISM:ESTIMATION AND SIMULATION OF THE ISRAELI MARKET ANAT TCHETCHIK,ALIZA FLEISCHER, AND ISRAEL FINKELSHTAIN This article applies a discrete-choice equilibrium model with product differentiation to study the rural tourism industry in Israel and to jointly estimate the effect of lodging and farm characteristics on con- sumer preferences and firms’ costs. The model accounts for heterogeneity in tastes and technologies and allows for unobservable product characteristics. We find evidence for technological synergy in the joint production of agricultural goods and rural tourism services, but none in the demand. The differentiation in the industry is the major contributor to the price-cost margin, which averages 62%. An additional minor cause is government regulation, which restricts supply. Simulation results demon- strate the growth potential of the industry and show that the government can play an important role in catalyzing growth via investment subsidization, deregulation of supply and information distribution. Key words: agritourism, differentiated goods, oligopoly markup, rural tourism. Rural tourism or alternatively, agritourism, is a rapidly growing industry in Europe and North America, experiencing an annual growth rate of 6%. In many rural areas it has become an im- portant source of livelihood for the rural popu- lation. For example, the annual proceeds from rural tourism in England amount to $14 billion and it provides 380,000 jobs (Arnold 2004). In Canada, it accounts for 3% of the rural la- bor force (Bollman 2005). In the US, in the years 2002–4, a reported 90 million adults took trips to rural destinations (Brown 2005). In the northern region of Israel, 10% of the rural households are involved in rural tourism. The reasons for the recent emergence of tourism as an important rural economic activity in North America, the EU, and Israel are twofold. First, continuous growth in income and leisure con- sumption combined with a sharp reduction in transportation costs have increased the de- mand for rural tourism (Dernoi 1991; Williams and Show 1991; Pompl and Lavery 1993). Sec- ond, rapid technological advances in agricul- ture, accompanied by a sharp decline in the terms of trade, have induced exit from farm- Anat Tchetchik is a postdoctoral candidate and Aliza Fleischer and Israel Finkelshtain are senior lecturer and professor, respectively, at the Department of Agricultural Economics, Hebrew University of Jerusalem. The authors thank Ayal Kimhi for valuable suggestions. Financial support from the Agricultural Economics Research Center, the Agricultural Chief-Scientist fund and the Horovich fund are appreciated. ing and in the past 50 years, about 60% of the farmers in all of these regions have left agri- culture (Canada 2001; Gala 2005). Searching for alternative sources of income, many farm- ers have become entrepreneurs in the rural tourism business (Bryden 1992; Butler, Hall, and Jenkins 1998). Not only are the developmental patterns of rural tourism in the above industrialized countries alike, so are the forms of public support that have accompanied the transfor- mation process are similar (Kieselbach and Long 1990; Stevens 1990; Bates and Wacker 1996; Fleischer and Felsenstein 2000; Hall and Jenkins 1998). Both Israel and the EU ad- ministrate direct support policies, for exam- ple, the EU is, currently, proposing to budget over $17 billion from 2007–13 in support of tourism-related projects in rural areas (Bendz 2004). In the US and Israel, governmental land policies, such as special zoning ordinances and the setting-aside of lands, enrich the rural am- bience and encourage rural tourism (Gartner 2004). Finally, in all three regions, govern- ment provision of public infrastructure, such as transportation and communication, catalyzes the development of rural tourism. The outstanding growth of the rural tourism sector and particularly rural accommodations, and public intervention, raise several im- portant questions. Are the current growth rates sustainable and what are the industry’s prospects of becoming an important source of Amer. J. Agr. Econ. xx (xxx 2008 ): 1–18 Copyright 2008 American Agricultural Economics Association DOI: 10.1111/j.1467-8276.2007.01112.x