1. Chapter 5
Competitive Balance

2. Leagues Want Balance Balance helps profits
Attendance and TV ratings fall if one team dominates
Even the dominant team can suffer
What is competitive balance?
Is it a good chance of winning each game?
Is it turnover among champions?
What do teams do to improve balance?

3. Teams, Leagues, and Balance
What do teams want to do?
Some – like the Yankees – pursue wins at the expense of profits
Others pursue profits at the expense of wins
Leagues can limit behavior of teams to promote balance

4. Balance and Marginal Product
Diminishing marginal product limits the desire of a team to acquire players
The Los Angeles Lakers will not pursue Dwayne Wade
Already have Kobe Bryant
Wade or other shooting guards will add little to wins, attendance or revenue
The added cost exceeds the added benefit

5. Is Perfect Balance Profit Maximizing?
Winning has a bigger impact in a large city
More gate revenue
More media revenue
More venue revenue
Higher marginal revenue
If costs do not vary by city size, big cities will win more
MR, MC
MRlarge
MRsmall MC
Wins

6. Measuring Balance within a Season
Could use the standard deviation of winning %
Gives the spread of performance by teams
Problem: # observations (games) must be constant
Cannot compare across leagues
Cannot compare across seasons
Key innovation: compare actual standard deviation to the “ideal” standard deviation
Assumes ideal means that teams are evenly matched
Each team has a 50% chance of winning a given game
Take the ratio of actual to ideal

7. Computing Within-Season Balance
The ratio of actual to ideal standard deviation
T= # teams
N = # Games
WPi = Winning Percentage of team i

8. Interpreting the Ratio
The ratio gives a “standardized” measure
Actual and ideal rise with number of games
Can now compare across leagues & years
As a rule: R > 1
R = 1 League is completely balanced
Outcomes are effectively randomly determined
As R rises: imbalance worsens

9. How Do Leagues Compare? NHL is the most balanced (R=1.66 in 2008-2009)
NBA is the least balanced (R=3.07)
NFL (1.66) and MLB (1.75) are in between
English Premier League (1.97) worse than all but NBA

10. Measuring Balance Between Seasons
Can use the standard deviation of each team’s winning percentage
Unlike within season do not have an “ideal” measure
Unclear what is a good or bad level
Can use frequency of championships
Hard to compare across leagues

11. Between Season Balance: The Hirfindahl-Hirschman Index
HHI measures the concentration of championships
Let ci = #championships by team i
T = #teams; N = #Years
HHI=1  one team always wins
HHI=1/N  complete balance

12. Illustrating Imbalance
The Lorenz Curve
Measures inequality in a population
Typically used to measure income inequality
We use to measure inequality in winning
Line up NBA teams by wins in
1230 games were played so population=1230
The 3 weakest teams won 55 games
Bottom 10% accounted for 4.5% of wins
Next 10% accounted for 5.8% and so on

13. The Lorenz Curve for the NBA
Red line shows perfect balance
Adding 10% more teams
Adds 10% more wins
Blue line shows reality
Bottom 10% wins less than 10%
Sags below red line
As add better teams, blue curve catches up
At 100% of teams, we account for 100% of wins
The farther the blue line sags, the greater the inequality

14. Applying HHI to Baseball
MLB owners have frequently complained about the lack of competitive balance
Can use the HHI to test this claim
Over the period
MLB was most balanced (HHI=0.14)
NBA was least balanced (HHI=0.28)
NFL (0.16) and NHL (0.18) were in between

15. The Coase Theorem and Competitive Balance
Coase claimed that markets direct resources to their most productive uses
Property rights do not affect the flow of resources
They affect only who gets paid for them
The theorem is most commonly applied to externalities
Applying the Coase theorem to sports
LeBron James will go where he is most productive
The team where he generates the greatest income

16. How The Coase Theorem Works
Assume that LeBron James is more valuable in NY than in Cleveland
Under free agency
The NY Knicks pay James to move to NY
If there is no free agency
The NY Knicks pay the Cavaliers for the “rights” to James
James moves - the only difference is who gets paid
The reserve clause did not prevent player movement
In 1920 Red Sox sold Babe Ruth to Yankees
Connie Mack twice sold off championship teams in Philadelphia

17. Promoting Competitive Balance
The Coase theorem breaks down if there are large costs to making transactions
Owners have tried to impose transactions costs
Revenue sharing
Salary caps and luxury taxes
Reverse order draft
These restrictions also promote monopsony power

18. Revenue Sharing
We have seen that winning means more to teams from big cities
New York will naturally win more often
Revenue sharing tries to reduce this source of inequality
All 4 major sports leagues share revenue

19. Should Revenue Sharing Work?
Even if teams share all revenue equally
League revenue is greatest when big-market teams win
The incentive to have big-market teams win does not go away
Not all teams pursue winning equally
Losing teams often have higher profits than winning teams
The Marlins and Nationals have higher operating income than the NY Yankees

20. Introduction to the Salary Cap
NBA, NFL, and NHL all have salary caps
Caps set upper and lower limits to payrolls
Take qualifying revenue (QR) of league
Not all revenue “qualifies”
Definition varies from league to league
Players get a defined share of the QR
Divide total player share by # of teams
Add & subtract fudge factor (~20%) to get bounds

21. Hard Caps and Soft Caps The NFL has a hard cap
Sets firm limit to salaries
No exemptions
The NBA has a soft cap with many exceptions
Mid-level exception
Team can sign 1 player to the league average salary even if it is over the limit
Rookie exception
Team can sign a rookie to his first contract even if it is over the limit
Larry Bird exception
Named for former Boston Celtics great who was its first beneficiary
Team can re-sign a player who is already on its roster even if it is over the limit

22. The NBA And Soft Caps
The salary cap has not helped competitive balance in the NBA
All the exceptions have led to further rules
The NBA now caps individual salaries as well as team payrolls
The NBA has a luxury tax to prevent teams from abusing the exceptions
Teams pay $1 for every $1 over the cap

23. MLB’s Luxury Tax Takes the place of a salary cap
Team pays a tax for exceeding a target payroll
Tax rises with the number of abuses
Detroit Tigers paid a 22.5% tax in 2008 as first-time violators
NY Yankees paid a 40% tax for sixth consecutive violation

24. The Reverse Order Draft
Ideally levels out talent
Weakest teams get first choice of new talent
Strongest teams get last choice
Works only if teams can identify talent
Can promote “tanking” to improve draft position
That is why the NBA has a draft “lottery”
Lottery means that weakest team might not choose first

25. Identifying talent: Moneyball
Billy Beane, the Oakland A’s general manager, found underrated players
He saw that teams overrated physical skills
And underrated on-base percentage
Using different criteria kept his small market team competitive
Other teams eventually caught on
A’s have fallen on hard times as a result

26. A History of the Reverse-Order Draft
Introduced by NFL in 1936
Caused by bidding war for Stan Kostka
Star running back for the University of Minnesota
Philadelphia Eagles & Brooklyn Dodgers competed to sign him
Drove salary offers to that of Bronko Nagurski – the top star of the day ($5000)

27. What Was The Point of the Draft?
Did teams just want to keep salaries low?
Was is a cynical move by weak teams?
Bert Bell, the Eagles’ owner proposed the draft
The Eagles happened to have the NFL’s worst record
Was it an idealistic move?
The NY Giants & Chicago Bears agreed to the draft
They were the dominant teams & had the most to lose
Tim Mara (Giants owner): “People come to see competition…. We could give [it to] them only if the teams had some sort of equality.”