The Market Structure of Sports.

Johnson, Bruce K.

At a Middlebury College conference on the economics of baseball in 1991, the keynote speaker at the opening dinner declared that everything important and interesting about the economics of professional sports had already been said, and no further work was necessary.

Clearly, Gerald Scully, who attended the Middlebury dinner, found the speaker's thesis less than compelling. He has published two books on sports economics since then.

His latest volume, The Market Structure of Sports, begins with three good chapters, but the remaining five chapters suffer from severe theoretical and empirical shortcomings. Perhaps publication of the book would have best been delayed until those failures could have been overcome.

The introductory chapter might well have been given the same title as the book. It first covers the product market, outlining the history of American professional baseball, basketball, and football leagues. It also describes the restrictions leagues place on franchise numbers and movements, the relevant antitrust cases, and the cartelization of broadcast rights. The product market section concludes with speculation on the possible consequences of dropping all restrictions on club entry and relocation.

The chapter then focuses on the input market, describing the evolution of restrictive labor practices, the history of labor disputes, and the distribution of income among players in the major team sports.

The next two chapters treat the players' market in more detail. Chapter Two develops a model of team rank-order tournaments to determine optimal intrateam salary structure. The greater the clubs' monopsony power, the narrower the pay gap between the lowest and highest paid players will be. This salary compression reduces the incentive of the best players to invest in their skills.

An examination of baseball and basketball salaries confirms the predictions of the rank-order tournament model. When monopsony power was at its peak, the pay of the top players was about ten times that of the bottom players. But free agency has increased the salaries of the top players to fifty times those of the bottom players.

The third chapter examines the effects of the rules of the game on the distribution of player income. It argues that sports emphasizing team work and player interaction, such as football, should have a more equal distribution of income than less interactive sports such as baseball. The highest inequality should occur in individual sports such as golf and tennis. The chapter also looks at the impact of the number of contests, league revenue sharing, free agency, and salary caps on income distribution.

Salaries in all four team sports, as well as some individual sports, are examined and found consistent with the model. As measured by the Gini coefficient, baseball has the greatest inequality of earnings, followed by basketball, football, and hockey. Golf exhibits greater inequality than any sport examined.

The remainder of the book falls far short of the quality of the first three chapters. What follows should be considered an illustrative, but not comprehensive, description of the problems.

Part Three purports to cover the market for sports franchises. But Chapter Four, which begins it, measures momentum, or serial correlation in winning percentages. A team's performance next year will be correlated with its performance this year. Anyone who has heard of the Chicago Cubs and the Boston Celtics knows this, but skeptics can examine several pages of autocorrelation estimations. Readers may well wonder, though, what this has to do with the market for franchises, the market structure of sports, or economics.

Chapter Five strains to show that momentum improves a club's reputation, and clubs with better reputations are worth more. But only two pages away from that claim, Scully says, "The demand for wins depends on the size of the franchise market" and on the next page, "clubs in big cities . . . win more games than small-city clubs." Big-city teams sell for more than small-city teams, too. A more plausible explanation of the role of momentum is that it is the byproduct of market size, as is franchise value.

Chapter Six examines profits, capital appreciation, and ownership duration. It asks which sport is most profitable, but it compares profit margins, defined as profit divided by revenue, rather than return on investment. What do profit margin comparisons show? Nothing. Grocery stores have much lower profit margins than car dealers, but risk-adjusted returns on investment in groceries and cars should be equal. So should the profitability of baseball and football teams. Whether they are is an interesting question, but profit margin comparisons cannot answer it.

The chapter compounds the error by computing the total returns to club ownership as the sum of a team's profit margin and its average annual appreciation in market value. By this method the total annual return in all sports in the 1990s is 27 percent, a number Scully compares to rates of return on investment in other industries. But such comparisons are meaningless.

Even if total returns were legitimately defined, the conclusions drawn from the book's comparisons would be dubious. For instance, Scully says that on a recent visit to Hong Kong some people told him the average investment recovery period in real estate was three years, an implicit annual rate of return of 26 percent. Since the Hong Kong economy is highly competitive, he says, the 27 percent return in sports "should not be judged as excessive."

The book's last two chapters cover coaching issues in sports. They fail to regain the level of quality achieved in the first three chapters.

In short, after a strong beginning, the quality of the book falls significantly. The later chapters ask some interesting questions, but the theoretical and empirical work do not measure up to Scully's usual standards. Readers interested in sports economics might be better advised to read earlier books by Quirk and Fort [1] or Scully [2].

Bruce K. Johnson Centre College

References

1. Quirk, James and Rodney D. Fort. Pay Dirt: The Business of Professional Team Sports. Princeton: Princeton University Press, 1992.

2. Scully, Gerald W. The Business of Major League Baseball. Chicago: University of Chicago Press, 1989.