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Encouraging the Poor to Stay Poor
Major League Baseball had a minor scandal last week when closely guarded financial data from several teams was leaked to the public.
The documents revealed that three franchises the Florida Marlins, the Tampa Bay Rays and the Pittsburgh Pirates generated healthy profits while receiving substantial revenue-sharing payments that were supposed to be used to improve on-field performance. Though this revelation may be embarrassing to baseball, what revenue-sharing recipients were doing with their transferred wealth was not surprising.
Baseball’s revenue-sharing system was designed to increase the competitiveness of small-market teams that presumably lack the financial muscle to compete with wealthier franchises. Redistributing wealth would give poor teams more resources to improve their rosters, and richer clubs would have less money to extend their financial advantage. The cumulative effect would be to spread good players around the league to achieve a level of competitive balance where “every well-run club has a regularly recurring reasonable hope of reaching postseason play” the standard put forth by the Commissioner’s Blue Ribbon Panel on Baseball Economics.
Despite the good intentions behind revenue sharing, doling out money to baseball’s have-nots has the unintended consequence of creating a disincentive to win. Though the correlation is not perfect, winning tends to attract fans, which increases local revenue. But a healthier bottom line means drawing less from the revenue-sharing pool. The quandary faced by poor-and-losing teams is that using the added wealth to improve their clubs increases local earnings, but these gains may be offset by reducing revenue-sharing payments.
In my book on valuing baseball players, I estimated the relationship between winning and revenue for M.L.B. teams. The revenue function shows disparate responses to winning at various levels of success, which support the notion that revenue sharing discourages improvement. The function shows that improving from a mid-60s-win team to a mid-70s-win team generates financial losses. The observed revenue bump from losing is consistent with the hypothesized disincentive to win when teams face a cut in revenue sharing. I refer to this region as the loss trap, because improving your team over this range of wins can cost you money.
Also, strong returns to winning do not kick in until a team hits the mid-80s in wins. Losing teams might improve their financial standing somewhat if they improved drastically, but transforming a loser to a winner does not happen overnight and cannot be willed into existence. Thus, the safety net offered by revenue sharing encourages teams to remain perpetually bad.
Investing revenue-sharing money into a team does not always make sound business sense; therefore, it is not surprising that low-revenue teams choose to hoard revenue-sharing disbursements. And though revenue-sharing recipients are charged to use the money to improve on-field performance, what constitutes proper use is hard to determine. The players union was able to coax the Florida Marlins to sign Josh Johnson to a four-year, $39 million deal by threatening legal action for not properly using its revenue-sharing receipts. The leaked documents, however, reveal that monitoring team behavior in light of bad incentives has proved difficult.
The failure of revenue sharing to promote competitive balance can also be seen in baseball’s historical record. Since its introduction in the mid 1990s, revenue sharing has not made baseball any more competitive than it used to be. Sports economists often measure competitive balance by comparing the standard deviation of winning percentages across teams to an ideally balanced league where all teams are of equal strength, a measure known as the Noll-Scully ratio, which was named after the sports economists Roger Noll and Gerald Scully. As the metric declines toward one, competitive balance improves. The Noll-Scully ratio saw a drastic reduction in the average imbalance in baseball from 2.4 in the 1930s to 1.8 in the early-1990s. Since then, the ratio has not declined any further. Thus, the addition of revenue sharing appears to have had little effect on competitive balance.
It does not appear payrolls are the best policy instrument for improving competitive balance. Though payroll and winning are correlated, several teams have found success on small budgets in recent history, including the revenue-sharing scofflaws Rays and Marlins. It is also not clear that baseball’s competitive balance needs further improvement. Since 2000, 23 of M.L.B.’s 30 clubs have made the playoffs, and two of the seven that have not reached the playoffs (the Cincinnati Reds and the Texas Rangers) are on track to participate in the postseason this year.
Growing attendance and revenue over the past decade do not indicate that fans are turned off by any perceived imbalance, and revenue sharing does not appear to help poor teams compete. Rather than tweaking the current revenue-sharing system, I think it would be best if M.L.B. abandoned it.
J. C. Bradbury, a sports economist at Kennesaw State University, is author of “Hot Stove Economics,” to be published in October.
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