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Many fans were outraged last weekend when the Associated Press, which had leaked some of the team's financial statements, reported that the Pirates had earned a profit while receiving money from Major League Baseball via revenue sharing while spending less on player payroll than nearly every other team in the sport. Apparently, fans are shocked that the people who charge them $5 for a hot dog are more interested in their money than their happiness. However, this is exactly what a system like MLB's revenue sharing is bound to do. It creates an incentive for small-market teams to earn more money by not investing in the product on the field.

The concept that baseball teams spend money because they want to make their fans happy is nonsense. They do it to make money. Sure, George Steinbrenner undoubtedly placed some value on wins when he owned the Yankees, but he was not to risk going to the poorhouse for the sake of winning a pennant. MLB is a business, and businesses like to make money. Until the structure of baseball changes such that franchises have the incentive to win because it enables them to make more money than by not winning, there will be outrage directed at the Pirates or Marlins or some other small-market team every time a story like this comes out.

Baseball players make a lot of money. The average player earned about $3 million a year, and there is a good reason why. Winning baseball games can be very profitable for some teams. Franchises in big cities like New York, Boston, Los Angeles, Chicago, and Philadelphia can make a lot of money by making the postseason, especially if they bring home a pennant or a World Series championship. The Phillies sold out their 100th straight baseball game last Thursday at Citizens Bank Park, and they are spending about $138 million on player salaries this year. These are not unrelated facts. The Phillies spent just $42 million on salaries in 2001, the year after they won 65 games. Those facts are not unrelated, either.

As a result of the differences in spending by poor and rich teams, MLB has instituted a “revenue sharing” plan whereby teams like the Yankees and Red Sox more or less funnel money to teams like the Marlins and Pirates, and this is somehow supposed to make the lower-revenue teams spend money on player on salaries. Of course, this assumes that the Pirates are owned by well-meaning poor people. The owners could have spent some of their own money on player salaries for the enjoyment of Pittsburgh fans if they so desired, but why would they? Clearly, they were not going to surrender some of their own money to make the fans happy without anything more than a charitable feeling coming from it. But why would handing those same owners cash via the revenue-sharing system somehow make them any more charitable? 

I know that you’re going to say that the rules dictate that revenue-sharing money should be spent on improving the competitiveness of the team, but why wouldn’t teams just say that the money went to salaries even if it did not change their behavior? The Pirates can simply claim that they would have spent less on salaries by the amount received from revenue sharing, and how could the average prove them wrong?

Trusting in the charity of billionaires is a foolish venture. The outrage should be directed at a system that provides the incentive to pocket the cash. 

The problem here is an issue of relative value. The Red Sox get more revenue added out of a four-win player than the Pirates do because it gives them a better chance of making the postseason, so it was not surprising that they worked out a deal to acquire Jason Bay from Pittsburgh during the 2008 season. Bay provided more value to the Red Sox than he did to the Pirates as he helped them make the postseason in both 2008 and 2009.

You do see examples of small-market teams picking up an expensive player, but those are almost always cases where a team like Tampa Bay is on the playoff bubble and spending on Pat Burrell or Rafael Soriano can provide a substantial amount of revenue by pushing them into a lucrative playoff berth.

But teams who are nowhere near the post-season contention simply do not have the same value for stars that teams from large markets and teams near the playoff bubble have. Spending $27 million a year on Alex Rodriguez costs the Pirates more than it adds to their revenue, but spending $27 million on Alex Rodriguez adds to the Yankees’ revenue more than their costs.

We see that the Pirates made $15 million in 2008 in this report, and let’s say for the sake of argument that they received $25 million in revenue sharing. I am contending that without $25 million in revenue sharing, the Pirates would have lost $10 million exactly, with no other real change in spending behavior because there was no reason for spending to be any different. If adding Rodriguez would only have made the Pirates $15 million but cost $27 million, then the Pirates would have only made $3 million instead of $15 million had they signed him. If there had been no revenue sharing, the tradeoff would be a $10 million loss without signing him versus a $22 million loss with signing him. Either way, they make $12 million less by signing him.

The solution could take a variety of forms, but the success of the luxury tax provides the clearest suggestion. Although the uber-large market Yankees regularly spend past the luxury tax threshold, the "regular" large-market Red Sox frequently push right up against it and stop. The reason is that the luxury tax does what marginal taxes generally do—it makes the marginal cost of signing players higher beyond that point. This luxury tax system makes it so that even though the Red Sox have a higher marginal value for signing big-ticket free agents, they have a higher marginal cost for signing the big-ticket free agents that push them over the luxury tax threshold.

By marginal value, I mean the extra value added by bringing in the player relative to the value of not having the player, and by marginal cost of a player, I mean the change in total cost as a result of bringing in the player, including both the cost of the contract itself and the extra luxury tax spent if a team goes over the minimum threshold for the luxury tax.“

The problem is that MLB has not employed the same logic in encouraging small-market teams to spend as it has in discouraging large-market teams to spend. If the league found a way to effectively subsidize the expenditures that the Pirates make on player salaries such that the marginal cost of signing those players was lower, then the Pirates might have an incentive to spend on free agents with the big boys, because even though they have a lower marginal value for adding those players, they also would have a lower marginal cost for adding those players.

Until then, the only way for small-market teams to win is to find a market inefficiency that they can exploit such that they actually do make more money by winning or by waiting for the stars to align such that their homegrown talent stock puts them on the playoff bubble on its own before they spend any additional money on free agents.

 There are a number of different ways to implement this “Anti-Luxury Subsidy” plan, and all of them will have their strengths and weaknesses, but simply giving billionaire owners cash and expecting that they will spend it without a change in the marginal cost or marginal value of making those expenses is not going to work. Until that changes, every few months some article will publish financial details that will outrage the fan who thought that his hometown team’s owners were spending millions of dollars a year for his personal happiness.  

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Gugilymugily
8/26
Everything you wrote in this article makes sense, but I"m disappointed that you just idly mentioned that there are "a number of ways" to implement the subsidy plan. When I first read that, I couldn't immediately think of one. But how about something like this:

MLB abolishes the current system of revenue sharing, but keeps the funds from it. Instead, they implement a system of matching funds to low-payroll teams. I haven't looked at revenue numbers, so these are just random numbers here.

For payrolls between $50M and $80M MLB will pay half the salary over $50M. So a team with a 60M payroll would effectively only be paying $55M, and more importantly, if they were to consider signing a big free agent, he might only cost them 8M a year instead of 16M.

If you did that, though, you would essentially be creating a situation like the current luxury tax at whatever the end-level for subsidizing salaries would be. You could not have an salary level which if you exceeded would cause you to forfeit the subsidy, but then all you get is MLB paying everyone $15M(at least everyone with an 80M payroll), which doesn't feel like what you want to accomplish.


Like I said, I basically thought that idea up reading the article and typing it, but I'd like to hear about what your ideas for how MLB could go about subsidizing payroll for smaller teams.
swartzm
8/26
Yeah, something exactly like that. MLB contributes towards payroll at the low end of the payroll distribution and subsidizes it, while taxing at the high end. The "number of ways to implement" was just to say that anything that involves lowering the marginal cost below the actual cost of the salaries for low salaries is good. The reason it's okay to being effectively paying everybody $15 million is that a lot of these teams are receiving that money now anyway but not raising salary. You get the money from taxing the high end of the curve and from things like MLBAM. There could also be a phase-in payroll subsidy that gradually becomes a payroll tax, too.
dpowell
8/26
It seems like we need to be asking why the Yankees are in a position such that A-Rod is worth so much to them. I assume it comes down to the fact that a return to an additional win (or making the playoffs, winning the WS, etc.) is worth more in NY since it's a bigger market. So, maybe the best way to go about this is the following: figure out some "return to outcomes" (wins, playoffs, WS) for each team or, more likely, for each category of teams - small, middle, large market teams. MLB, then, makes sure the "return to outcomes" are equal across teams by giving small market teams extra money based on outcomes. In other words, they subsidize wins, playoff appearance, WS wins, etc or tax the absence of those successes. The amount of the subsidy/tax is dependent on your market size. Once the returns are equal across teams, we should see similar budgets across teams since Pittsburgh and New York now both have the same incentive to invest in their team. By credibly promising that this structure will exist in the future and increasing such payouts by interest rates, teams will have no incentive to go after an extra win or two in this season at the cost of future success (in other words, this won't force teams to increase payroll for its own sake since investments should be more worthwhile).
oneofthem
8/26
The issue i care most about is the public subsidies and anti-trust exemption baseball gets, especially the former. I don't really see how teams get aid by lobbying the public all the while without releasing their financial figures to the public.
mikebuetow
8/26
Matt writes: "The Phillies sold out their 100th straight baseball game last Thursday at Citizens Bank Park, and they are spending about $138 million on player salaries this year. These are not unrelated facts. The Phillies spent just $42 million on salaries in 2001, the year after they won 65 games. Those facts are not unrelated, either."

The argument of attendance-to-wins ratio would be stronger is backed by data instead of conjecture. I'm sure there's a BP study somewhere you could have linked to.

j11forbes
8/26
It was done by Nate Silver in the Baseball Between the Numbers book and hence cannot really be linked to.

You probably should check out the Shawn Hoffman article from August 20, 2009 last year: http://www.baseballprospectus.com/article.php?articleid=9418
mikebuetow
8/27
Thanks for the link. Problem is, Shawn's article ties revenue, not attendance, to wins. There are many factors that go into revenue; paying fans in the seats is just one of them. And as any Red Sox fan knows, all ticket prices are not created equal.
mikebrak
8/26
Hot dogs are $2.50 at PNC.
crperry13
8/26
He meant the ones made of meat.
studes
8/26
Excellent perspective, Matt. I agree with you and Sam Mauser that a much better system would be one that tied the tax and its distribution to salary/payroll. Revenue is too squishy.


On the surface, Sam's proposal makes a lot of sense. It might be worth getting more specific with it.
Arrian
8/26
Gotta be careful not to force poor teams to spend money in the FA market. That's a recipe for constant mediocrity (or worse).

Poor teams absolutely must be able to "pocket the cash" in some years to save up for a run, while investing in their prospects. Will some just keep pocketing the $? Sure, yeah (though everybody's favorite whipping franchise for that sin DID win the WS in recent memory). The only good fix I can think of for that is to make sure you don't let a guy like Loria become an owner. Get guys who really want to win.
studes
8/26
But that's the nice thing about Sam's proposal. It doesn't force a team into the FA market, it only makes it cheaper for them. If it doesn't make sense to sign a free agent, even at a cheaper rate, then the team won't do it. Theoretically...
ravenight
8/26
The problem with doing away with the current revenue sharing in favor of a payroll-based subsidy is that payroll isn't the only thing teams need to spend money on. It's fine to argue that the team is only going to invest money when it believes that doing so will result in a positive return, but the argument implicitly assumes that the owners have a bottomless amount of money they are willing to risk on investments in their team. That just isn't necessarily true. A riskier or more marginally profitable bet becomes easier to take when there's more money to bet with.

Of course, that doesn't mean that's the most effective way to spend the revenue sharing money. It might be much better spent by using it to match investments in the team that include all the things the team should spend on to become competitive. If all those things receive the same amount of matching, then a team that isn't competitive will be encouraged to spend on the draft/player development, while a team that could be competitive is encouraged to spend on free agents. The problem is that in order to give people the whole picture we need to be showing the expenses as they actually are instead of just the major league payroll.

swartzm
8/26
This is all true, but it comes down to asking what the goal is. Do you want the Pirates to neglect being less terrible for the next few years so that they can be championship contenders after that, or do you want the Pirates to put a team on the field that is going to give the Cardinals and Reds a run for their money in pennant-deciding games? I'm pretty sure baseball might care more about the latter more than the former. But if not, sure, go ahead and subsidize development cost too. That's why I said "a number of ways" in the article-- I was hedging on that one!
MindRevolution
8/26
When was the last time the Pirates lost a player because they "couldn't afford it"? Barry Bonds? The problem with the Pirates is that they haven't had any talent to build around period. They aren't the Marlins who trade a guy the minute he gets expensive, they get guys who get expensive who aren't worth getting expensive in the first place. Their drafting has been abysmal outside of the last couple of years and even then, Tony Sanchez?
PelotaDiSoldi
8/26
Really? What about when they traded Aramis Ramirez for marginally less than a bag of balls (Bobby Hill) because he was going to be too expensive. There was no other reasoning given for that trade than its payroll paring effect. He has been above average to very good for the past 7 years. That's a Skywalker DeathStar-killshot to your argument.
Oleoay
8/27
Remember that they also sent along Randall Simon and Kenny Lofton in that trade, two players who had value and could've been flipped for _something_.
mikebuetow
8/27
Depends on your cutoff of "lost," I guess. Jason Bay and Nate McLouth would qualify in my book, even though McLouth was signed cheap by most team's standards.
MindRevolution
8/26
At the time they traded him he had a 99 OPS+. The last 6 years with the Cubs prior to this year were better than anything he ever gave the Pirates. So that's one player that it looks like they gave up too early on who was getting expensive. Giles was traded when he was 32. Just look at their drafts. Andrew McCutchen is the best player they've drafted since Jason Kendall.

One player does not make my argument fall apart. With a few exceptions, they pretty much completely fail to develop talent or develop talent picked up off the scrap heap. The best thing they've managed to do in the last 18 years are both the Giles trades, though obviously getting him being the better deal. The point is that when they draft a guy he usually busts, and when they gamble on Andy Laroche and Lastings Millege it doesn't work out for them.
BeplerP
8/26
I'm completely unconvinced by your arguments, which totally fail to take into account three implacable facts about baseball today:

1. Player payrolls have a complete lock on team income- all team business decisions have to take that into account.
2. Geography is destiny. This works very strongly in favor of the (post- Steinbrenner dementia) Yankees, the Red Sox, the Dodgers, the Chicago teams- assuming they are run with a bit more intelligence than ego. But unless they want to wind up in a league consisting only of those similarly situated (and very small leagues, indeed) they have to support the other clubs.
3. Most of what you see as the greed-obsession of the large market club owners is simply their need to make a profit, so that they can keep up with their obligations to 1. and 2.

Try reading The Wealth of Nations some time. Someone (maybe you?) has neglected your education.
dpowell
8/26
What? Maybe you could explain? If I'm reading this correctly, you're suggesting that the Yankees spend a lot because they feel a need to make a profit in order to fulfill their destiny of being in New York. Expand. And leave out swipes at Matt's education this time.
swartzm
8/26
Excuse me? I also fail to understand your point, Peter. I'm not sure what payrolls having a "complete lock on team income" means. I think it's also pretty clear that you seem to have come to the same conclusion as everyone else-- that building a winner is more profitable in large markets-- and then you seem to think I don't think that, despite the fact that the crux of my argument was precisely that...Oh, and I do own The Wealth of Nations. It was required text in the intro courses to my Ph.D. in Economics. I'm not sure I read anything in there about anything you said though. Why don't you try to see what you disagree with in my article, and we can discuss?
dpowell
8/26
I was also unconvinced by your article, Matt. You miss three other crucial points:

1) Teams have different colors and the players are paid salaries to wear these colors. All players must take this into account.
2) Time is fleeting. The future is now and teams want to win now. If you don't win now, you don't win in the future.
3) Much of what you see as a need to make money is really just a survival instinct to pay for food and shelter to fulfill 1 and 2.

Read Little Women and some of this should become more clear to you.
BeplerP
8/26
Matt: I respect your intelligence, and your opinion- you are a professional at this and I am not- but I don't see you advancing an evidence-based refutation of any of my points. In a favorite book of mine, Paul Colinvaux's ecological classic, "Why Large Fierce Animals Are Rare", it is carefully explained just how tough it is to be an African Lion- (a) you need a very large territory to feed yourselves and your dependents; which (b) your natural adversaries are always trying to take away from you; and (c) in the event you become sick lame sore or disabled, or otherwise fail at your job- to defend your territory- you will be promptly consumed, either by those adversaries or by your own dependents. I think the analogy to a large market club holds up. They do what they do- maximize the benefits of their territories so as to survive- by constantly reinvesting in their asset base- not out of altruism or ego burnishing, but to meet the heavy obligations of maintaining their position at the top of the food chain. That in turn takes heavy payrolls, and investing in the food chain. I'm not a simplistic Darwinian, but the dynamics of evolution sure have some explanatory power here, don't they? More Later. With best regards,
BeplerP
8/26
Sorry, the title of Colinvaux's book is "Why Big Fierce Animals Are Rare".
dpowell
8/26
Thanks, that clarifies things.
LlarryA
8/26
Not buying it. If the Yankees fail to dominate, no one comes in and contracts them or forces them to move to Altoona. They've fallen from the "top of the food chain" a couple of times before and survived to fight another day.

It could be argued that when the Yanks are on top, they need to help subsidize (luxury tax) the lesser teams to maintain competition and the quality of the Yankees "product" (in this case, being games worth watching), yet if the Yankees falter, then the top-of-the-standings opportunities that open up for smaller-revenue teams also form a sort of subsidy, just that the $$ involved come from happier local fan bases.
swartzm
8/27
Darwinism explains a wide variety of topics in economics-- both biology and economics inform each other well. I had a friend who did both and was able to utilize both fields to understand them both better. However, the survival aspect of Darwinism generally links to the entry/exit of firms condition in economics, which is not something that is relevant in Major League Baseball. Baseball teams do not go out of business, are not forced to dissolve when better competition emerges like restaurants are. However, the general point that teams from bigger markets stand to gain more from investing in winning is true, regardless of whether you frame it as they stand to lose more by not winning. In any case, the general point of the article holds. As long as the return on investment is vastly different in large and small markets, the large market teams are likely to outbid the small market teams unless the cost of investment is lower for the small market teams.
dglawschool
8/26
I like your article, and Sam's proposal, but this stuff:

"The owners could have spent some of their own money on player salaries for the enjoyment of Pittsburgh fans if they so desired, but why would they? Clearly, they were not going to surrender some of their own money to make the fans happy without anything more than a charitable feeling coming from it"

I don't know if average fan guy is as stupid as this. I would expect the owners to invest money in the players and winning because it would lead to a big fanbase and more money. Improve their business, so to speak.

Everyone on this board is a baseball lifer, so we're going to follow the sport no matter what. But I think if you asked your neighborhood high school student, he expect the owners to reinvest that money into their horrible horrible team because otherwise he's risking his customer base.

Now maybe the Pirate owners are investing exactly the right amount, I don't know. But perhaps fans expect the ownership to try to improve the team based on a customer relationship, not a charitable one.
swartzm
8/26
I agree with your point that the decision to spend money on a team is one of investment, not of charity, and based on building a customer relationship. However, I was assuming that the value of building customer relationships in New York City is higher both because of the sheer number of customers and because of their wealth, so the price of talent-- which builds that fan relationship-- is driven up by the big-city and/or playoff-bubble franchises with the most return on that investment. So I'm guessing that not participating in the auctions for players is probably rational for a small-market non-playoff-bubble team. I think you and I agree, basically, in principle though and maybe my language of "for the sake of making fans happy" was a bit of an exaggeration of the general fan sentiment of calling their owners "cheap."
ScottBehson
8/26
On si.com, Sheehan had a good take on this issue- tying revenue sharing to "potential revue" of a market vs. actual revenues.
TGisriel
8/26
Since the Yankees have both the most revenue available to them, and the greatest incentive/reward for spending those revenues on players, they spend the most money onplayers.

These facts are essentially locked in. This makes competing with them much more difficult.

We constantly hear that other teams can compete by drafting well and developing players (the Rays example). The Yankees, however, have essentially the same opportunity to draft and develop players (adjusted for draft order). They are major players in signing international free agents.

Competing with the Yankees requires a team to beat them so badly in the drafting and development area that it overcomes their advantage in the free agent area.
Oleoay
8/26
Not that I disagree, necessarily, but it makes sense that if the Pirates are tearing down and rebuilding their major league and their minor leagues, they would strip the roster down to the bare bones and reinvest the money not in player salaries (where the marginal wins, as you indicate, would have less value), but in their farm system. Is it better to do what the Pirates did in 2007-2009 and tear down their major league roster, or to hand out contracts to Pat Mears/Kevin Young types?

Actually, for all the hoopla about their 2007 and 2008 profits, that wasn't the most interesting part in that report for me. What intrigued me was that their profit decreased from $15 million in 2007 and $14.5 million in 2008 to $5 million for 2009, indicating they are reinvesting. This assertion can be backed up with how much they spent in the 2009/2010 drafts, their Dominican academy, etc.
Lespaul1
8/26
Well put Richberg.
map2history
8/27
good point, but teams like the Yankees and Red Sox who trade for players before the July 31 dealine, trade during the off-season, or who claim a player off of waivers (assuming a player hasn't been claimed by another team before they make it around to the Yankees or Sox) usually are required to give up prospects to acquire a proven veteran, putting them at a net disadvantage in the long run.