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The Economics of Professional Sports

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Title: The Economics of Professional Sports


1
The Economics of Professional Sports
  • Sharp, Register and Grimes Chapter 9

2
What is the most subsidized industry in all of
America?
  • From 1990 to 2000, 10 new NFL stadiums opened at
    a total cost of 2.677 billion (in
    inflation-adjusted 2000 estimated dollars), with
    taxpayers financing 77, or 2.057 billion
    dollars. And these numbers do not include tens
    of millions of dollars more in stadium
    renovations. During the 2001 and 2002 seasons, an
    estimated 2.1 billion will be spent on six new
    NFL stadiums, with taxpayers picking up about
    1.2 billion, or 57 of the costs.

3
Question 1
  • What does it mean for an industry to be
    subsidized?
  • In what kind of market structure are industries
    subsidized? Perfect competition? Explain.

4
The Professional Sports Business
  • Multibillion-dollar business that provides
    entertainment to millions of fans each year
  • Unlike most other business in two ways
  • The organizational structure of the professional
    team sports industry
  • The unique relationship between the sports clubs
    and the players

5
Organizational Structure
  • Individual teams or clubs are owned and operated
    for profit by private individuals or partnerships
  • Team owners are entrepreneurs who hire and fire
    the managers, coaches, and players rent or build
    the stadium and sell the tickets and broadcast
    rights to games.

6
The Role of Competition
  • Sprts clubs cannot operate independently but must
    cooperate with one another in order to sell their
    entertainment services to the public

7
Question 2
  • What does it mean for firms to cooperate with
    each other?
  • Is this different than any market structure we
    have seen before?
  • Do firms usually cooperate with each other?
  • Can you imagine if this is a good or bad thing
    generally? What if Honda, Subaru, and Toyota
    cooperated with each other? What would be the
    outcome for consumers?

8
Sports Leagues formal organizations of
individual clubs
  • American League/National League/Major League
    Baseball
  • National Basketball Association
  • National Football Association
  • National Hockey League

9
What is the role of the league?
  • Teams that are members of a professional sports
    league are contractually obligated to one
    another.
  • The league determines the schedule of games
    makes and enforces game rules sets the
    guidelines for hiring new players determines
    when a new team will be admitted to the league
    and allowed to compete with its members

10
Teams and Players
  • Unique relationship
  • Productivity is visible and easily measured

11
Question 3
  • What is productivity?
  • What is the usual relationship between
    productivity and a workers wages?
  • Is this relationship the same for professional
    sport players?

12
Professional Sport Salaries Whoa!
  • Huge salaries
  • Large differences in salaries between players
  • Rules imposed by each of the major sports leagues
    to promote competition on the playing field
    contribute to the seemingly inconsistent
    economics of players salaries

13
Choosing a player/choosing a club
  • Question How will you decide what company to
    work for?
  • Question How does a professional sports player
    decide which team to play for?
  • How are these decisions different?
  • Should they be different? Why?

14
Competition and employment
  • Competition on the field would diminish if any
    club had the ability to hoard the best athletic
    talent.
  • League rules are designed to ensure that each
    club has the opportunity to employ and retain
    quality players
  • Leagues establish the procedures whereby member
    clubs acquire the property rights to contract
    with specific players.
  • Because specific clubs may hold the exclusive
    right to contract with a player, athletes are not
    always free to work for the highest bidder.

15
Imperfect Markets
  • Question How has the behavior of the
    professional sports clubs that weve been
    discussion compared to the types of firms we
    discussed under the perfect competition scenario?
  • Are professional sports clubs competitive with
    each other? Why or why not?
  • What would happen if they were perfectly
    competitive?

16
More on Imperfect Markets
  • Imperfect Product Market when buyers and sellers
    engage in the exchange of final goods and
    services
  • Imperfect Resource Market when buyers and
    sellers engage in the exchange of factors of
    production like capital and labor

17
The Product Market
  • The essence of sports is competition
  • Essential for the professional sports clubs for
    this competition to be in the playing field and
    not in the marketplace
  • Why?

18
What if sports clubs competed in perfectly
competitive markets?
  • More successful clubs would sell more tickets and
    team merchandise
  • Earn higher profits
  • Have the ability to attract the best players with
    higher salaries
  • Over time, these clubs would become so much
    stronger than the less successful teams that
    competition on the playing field would
    deteriorate and become boring for spectators
  • If spectators dont come, then everyone loses

19
If you build it, they will come
  • To remain in business and earn profits for their
    owners, professional sports clubs must avoid the
    above scenario. How?
  • Coordination of economic decisions through league
    rules and guildelines.

20
Question What is a Cartel?
  • Are professional sports leagues like cartels?
  • If so, why are cartels o.k. in this situation and
    not in others?

21
Cartel Definition
  • A group of firms that formally agree to
    coordinate their production and pricing decisions
    in a manner that maximizes joint profits
  • A cartel can be viewed as a group of firms
    behaving as if they were one firma shared
    monopoly

22
What if
  • What if Toyota, Honda, and Subaru created a
    cartel?
  • How is this different (or is it?) than
    professional sports leagues?

23
Antitrust laws
  • Antitrust laws make it illegal, in most cases,
    for firms to monopolize an industry through the
    formation of a cartel
  • Why?
  • 1922, the U.S. Supreme Court ruled that major
    league baseball did not meet the legal definition
    of interstate commerce and was therefore not
    subject to the restrictions of antitrust.

24
For a cartel to be successful it needs
  • First The cartel members must be responsible for
    most of the output produced in their market
  • (the greater the proportion of total market
    output generated by the cartel members as a
    group, the greater the cartels degree of
    monopoly power)
  • Why would this be true?
  • What is monopoly power

25
Monopoly Power
  • The degree to which a firm (or firms in the case
    of a cartel) can be a price maker
  • This translates directly into the amount of
    profits a firm (or firms) can get in an industry
  • In general, the more monopoly power, the higher
    the profits

26
So how does the cartel work?
  • Basically firms coordinate their behavior in
    order to act like a monopolylimit Q and increase
    P then split the high profits.
  • If they competed, their prices would fall and
    corresponding profits would fall
  • So, its in their best interest to coordinate

27
More requirements for cartels
  • Second The cartel must be able to prevent new
    competitors from entering the market, or be able
    to integrate new competitors into the cartel
  • How do the major sports leagues do this? Do you
    know an example when they have eliminated
    competition? Controlled contracts of star
    players? Restricted the ability to start new
    rival leagues to compete for fans attention?

28
More requirements for cartels
  • Third cartel members must produce fairly
    homogeneous outputs
  • Why? Why would producing the same or similar
    goods enhance coordination between the clubs? Or
    between coordinating firms?

29
More more more!
  • Cartels must be able to divide the market into
    territories controlled by each member and to
    establish production quotas
  • Cartel members must agree on how their combined
    monopoly power will be shared among themselves
  • How do professional sports clubs do this?

30
More
  • Fifth a cartel must have the power to prevent
    cheating by other members.
  • In many cartel situations, an incentive to cheat
    on the agreement exists for member firms
  • Some firms may find it profitable to break
    production quotas or enter another members sales
    territory in an effort to capture more than the
    agreed upon share of the monopoly

31
The Tragedy of the Commons A Cartel Parable
  • Firms in a cartel have an incentive to cheat
  • This whittles away at the profits
  • Unless the cartel is formed in a legally
    sanctioned way, there is no way to police the
    cheating

32
Coordinating Behavior
  • Joint marketing and revenue sharing
  • Revenue comes from three major sources ticket
    and concession sales, merchandising rights for
    team souvenirs and novelties, and radio and tv
    broadcasting rights
  • Each league has specific rules for dividing the
    revenue generated through ticket sales between a
    host team and the visiting team

33
Pricing and Output for Broadcast Rights
  • Leagues have been most successful in jointly
    selling their entertainment services
  • Each league sells the national tv and radio
    broadcast rights to all the games played by its
    members as package deals to the highest bidder
  • Revenue is then divided among the member clubs
    see table 9.1 and figure 9.1

34
The Number and Location of Teams
  • Incentive to restrict the number of new members
  • Why?
  • Creates an incentive to relocate to new markets
  • Shortage of teams?

35
The Stadium Controversy
  • Billions of local tax dollars spent on the
    construction of new stadiums and sports arenas
  • 4 out of every 5 spent came from public sources
  • Why?

36
The Resource Market
  • The employment of players
  • Monopsony a market with only one buyer or one
    employer

37
Why monopsony?
  • Players legally locked into their drafted
    position
  • Highly and specifically skilled
  • Players have little bargaining power
  • Free Agency
  • Labor Unions

38
Do professional athletes earn their pay?
39
Questions
  • Explain why professional sports teams must
    cooperate with one another in order to produce
    competitive games for fans.
  • What is a cartel? What industry characteristics
    are necessary for the successful formation and
    operation of a cartel?
  • Professional baseball enjoys a special legal
    exemption in the US. What is this exemption, and
    why does it exist? Does it apply to other sports
    leagues?

40
More Questions
  • Explain how professional sports leagues maximize
    joint profits through coordinated behavior in the
    product market. Will each team earn the same
    amount of profit under a cartel agreement as it
    would if market competition prevailed?
  • Why does a cartels marginal revenue curve lie
    below its demand curve? Explain with a numerical
    example and a graph.
  • Why do taxpayers continue to support the public
    financing of new stadiums and arenas for
    professional sports teams? Are new stadiums and
    arenas good investments for a metropolitan area?
    Why or why not?

41
Even More Questions!
  • Discuss the economic pressures and incentives for
    professional sports teams to relocate. Are
    professional sports teams an important tool for a
    citys economic development? Why or why not?
  • What is a monopsony? What conditions give rise to
    a monopsony? How can professional sports teams
    be considered monopsonies?
  • What is free agency? How has it eroded the
    monopsonistic power of professional team sports?

42
More Questions!
  • For many years professional football players have
    earned on average less than half of what
    professional baseball players earn. Using
    economic reasoning, how can this fact be
    explained?
  • Why do team owners rigorously regulate the number
    of teams in their league? Under what
    circumstances would team owners vote for an
    expansion in the number of teams? When would they
    vote for a reduction of the number of teams?
  • Are professional sports players worth their
    multimillion dollar salaries? Explain.
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