The Airbnb Effect: Cheaper Rooms for Travelers, Less Revenue for Hotels

Hotels enjoy their highest profits when rooms are most in demand, like during holidays and big events. Unfortunately for them, Airbnb is taking away some of that pricing power, according to new research by Chiara Farronato and Andrey Fradkin.
by Dina Gerdeman

Airbnb is revolutionizing the lodging market by keeping hotel rates in check and making additional rooms available in the country's hottest travel spots during peak periods when hotel rooms often sell out and rates skyrocket, a new study shows.

That's bad news for hotels, which have traditionally earned their biggest margins when rooms were scarce and customers were forced to pay higher rates—such as in Midtown Manhattan on New Year's Eve. And it's good news for travelers who don't have to pay through the roof to get a roof over their heads during holidays or for big events.

"The benefits to travelers and the reduction in pricing power of hotels is really concentrated in particular cities during certain times," says Chiara Farronato, a co-author of the study. "When hotels are fully booked, Airbnb expands the capacity for rooms."

Released today, the research shows that in the 10 cities with the largest Airbnb market share in the US, the entry of Airbnb resulted in 1.3 percent fewer hotel nights booked and a 1.5 percent loss in hotel revenue.

The paper, The Welfare Effects of Peer Entry in the Accommodation Market: The Case of Airbnb, was written by Farronato, a Harvard Business School assistant professor, and Andrey Fradkin, postdoctoral fellow at the Initiative on the Digital Economy at the Massachusetts Institute of Technology.

"You might find a Fifth Avenue apartment or a place by the beach at a more reasonable price than you would if Airbnb wasn't an option"

Competition between traditional hotels and Airbnb is intensifying. Last Friday, Airbnb announced it is expanding its "experiences" offerings to an additional 1,000 cities. Meanwhile, the lodging industry is not only adding its own offerings, but stepping up lobbying efforts in local and federal circles for stricter regulations governing Airbnb.

The study focused on data from 2014, and the impact on hotels could be even greater today given Airbnb's strong growth since then.

In addition to access to more rooms, travelers reaped other rewards in places where Airbnb competed with hotels, the study shows. During busy travel times, guests enjoyed an average "consumer surplus" of $57 per night. This surplus didn't necessarily amount to more money in a visitor's pocket, but it did mean better accommodations at more reasonable prices, Farronato explains.

"Consumers don't always pay a lower price," Farronato says. "What changes is the quality of the listings. You might find a Fifth Avenue apartment or a place by the beach at a more reasonable price than you would if Airbnb wasn't an option. Or a listing might have additional amenities, like a kitchen. And if you still prefer a hotel room, competition from Airbnb means you'll pay a lower price for it."

Airbnb's rapid growth

Airbnb, an online community marketplace where people can list and book short-term lodging accommodations around the world, was founded in 2008 and has grown rapidly at a time when plenty of other industry-disrupting platforms have flourished, including Uber, Craigslist, and Spotify.

Airbnb offers listings in 191 countries, and its total number of listings—4 million-—is higher than the top five major hotel brands combined.

To compare the performance of hotels versus Airbnb, the researchers used hotel data from STR, which tracks more than 161,000 hotels, as well as proprietary data provided by Airbnb, creating "the perfect setup to study market competition between new online platforms and traditional service providers," Farronato says. They studied prices and occupancy rates in 50 major US cities between 2011 and 2014, targeting markets with the largest number of hotels.

During the study period, Airbnb made a relatively small dent in the overall short-term accommodations market. Its rooms represented 4 percent of all guests and less than 1 percent of total housing units across all cities. And Airbnb didn't have much effect on hotel occupancy rates overall. Since Airbnb bookings occurred especially when hotels were already near full capacity, a large share of these bookings—between 40 and 60 percent—would not have been made at hotels if Airbnb wasn't an option.

The San Francisco-based home-sharing platform still made its mark on the hotel industry, however. The researchers found that Airbnb's growth through 2014 reduced hotel variable profits by up to 3.7 percent in the 10 US cities with the largest Airbnb presence.

This effect was particularly strong in cities with limited hotel capacity during peak demand days. On those days, hotel room prices were affected relatively more than occupancy rates, meaning that a hotel in one of these cities might still be fully booked during a peak period, but the competition from Airbnb may have forced the hotel to lower its rates for those rooms.

Airbnb rooms were more plentiful in cities with a big demand for accommodations, as well as areas with higher-priced hotels, like New York, Los Angeles, and San Francisco. In other places such as Oklahoma City and Memphis, however, listings were sparse by comparison.

"It's important to note that not all cities are affected by Airbnb," Farronato says. "In Atlanta or Houston, there are enough hotel rooms to satisfy the demand, so peer hosts don't find it attractive to enter the market as much there."

Within each city, more Airbnb rooms cropped up during popular travel periods, such as Christmas and the summer. Sports games, festivals, and other events also led to a spike in listings. In Cambridge, Mass., the biggest listing period came during college graduation time.

And that's the beauty of Airbnb for hosts: They can respond quickly to market conditions, keeping their homes for private use when prices are low and hosting travelers only when the demand for rooms—and the payoff from renting them—is highest.

"As a host, you might not want to risk renting out your place for just $80 a night," Farronato says. "But when the pope comes to Philly, and hotel prices are $200, it becomes worth your while to put your spare room out for rent. Airbnb hosts are in this sweet spot where they can take advantage of only the high-demand periods and stay out of the market at other times."

Hotels fight back

Lodging groups have not taken Airbnb's incursions lightly. Starting in 2016, the American Hotel and Lodging Association backed efforts by the Federal Trade Commission and the state of New York to investigate Airbnb's impact on local housing prices, according to The New York Times. The AHLA also launched a campaign to portray Airbnb hosts as being, in reality, commercial operators looking to compete illegally with hotels.

As margin pressure increases from Airbnb properties over time, hotels will be forced to step up the competition even more. The problem: fixed investment costs. The demand for rooms is always fluctuating, but it's not efficient for hotels to build enough capacity to satisfy the peaks, so they are challenged with finding the right middle ground.

"When the pope comes to Philly, and hotel prices are $200, it becomes worth your while to put your spare room out for rent"

"If you have too much capacity, you will have a lot of empty rooms most of the time," Farronato says. "And if you have too little capacity, you won't be able to satisfy the demand, and Airbnb hosts will come in and drive prices down when demand is high."

Farronato said home-sharing platforms are likely to gain even more ground over time as consumers become increasingly aware of their benefits, so it's important for hotels to find creative ways to compete. At the same time, as cities add home-sharing regulations, both the benefits of Airbnb to consumers and hosts, as well as the effects on hotels, will likely become less pronounced.

Just as Airbnb is adding experience packages to its home-rental offerings, so too are hotels such as Marriott International. And maybe hotels could even find ways to alter their building spaces on the fly to accommodate the peaks and valleys of consumer demand.

"You could have rooms that quickly and dynamically change from hotel rooms into conference rooms. So you can have this flexible capacity of rooms that are available on New Year's Eve, but become conference spaces at other times," Farronato says. "It requires a whole new way of designing things. It's all worth thinking about."

Related Reading:

How Uber, Airbnb, and Etsy Attracted Their First 1,000 Customers
Airbnb Hosts Discriminate Against African-American Guests
Efficiencies and Regulatory Shortcuts: How Should We Regulate Companies like Airbnb and Uber?

What do you think about this research?

Is competition from Airbnb having a positive effect on the lodging industry? Add your comment to this story below.

About the Author

Dina Gerdeman is a senior writer for Harvard Business School Working Knowledge

Post A Comment

In order to be published, comments must be on-topic and civil in tone, with no name calling or personal attacks. Your comment may be edited for clarity and length.