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 worker’s 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 we’ve 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 don’t 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 firm—a 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 cartel’s 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 monopoly…limit 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 fan’s 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 member’s 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 cartel’s 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 city’s 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.