A Free Market Solution (from Europe) to the Labor Problems in North American Sports

The following is a guest post by David Berri, a Professor of Economics at Southern Utah University. He is also the lead author of Stumbling on Wins, the general manager of the sports-economics blog Wages of Wins, and is a frequent contributor to the Freakonomics blog.

Soon after presents are opened on Christmas morning, the NBA – after a lengthy lockout – will finally open its 2011-12 season with a slate of five games. Although NBA fans are pleased the lockout has ended, they’d probably prefer that it had never happened. Unfortunately for fans of pro sports in North America, such disputes frequently cause games to be missed. But maybe there is a free market solution to this problem to be found in, of all places, Europe.

Although we tend to think such disputes are a contest between labor and management, frequently the real conflict – as noted in my recent posts here — is between small and large market teams. In North American sports, team revenue seems to depend on the size of the market where the team plays. For example, according to Forbes.com, the New York Knicks had $226 million in revenues in 2009-10, while the Milwaukee Bucks brought in just $92 million. A similar story is seen in baseball, where the New York Yankees brought in $427 million in 2010, while the Pittsburgh Pirates had only $160 million in revenues.

Such revenue disparities often cause small market teams to demand more money. Ideally – from the owners’ perspective – this money comes from the players, which is what we saw happen in the NBA dispute, where the players just took a pay cut. In baseball, the players have historically been unwilling to accept wage cuts for small market teams. Consequently, baseball has transferred – via the luxury tax – money directly from large market teams to small market teams.

If we look to Europe, though, we might see a better approach. To understand it, let’s consider the arguments of Frederich Hayek, who argued that a centrally planned economy can’t work as well as a free market one because the central planner could never have enough information to make adequate decisions. OK, but what does this have to do with sports?

Essentially, North American sports leagues use central planners to determine the location of sports teams. In contrast, European sports leagues rely on the market.

Photo: 99 James Kieran Nguyen

For those unfamiliar with the nature of European sports leagues, let’s briefly describe the promotion and relegation system. In a league such as the English Premier League, the bottom three teams in each season are demoted to the Championship League (a lesser league). The top three teams from the Championship League are then promoted to the Premier League. Consequently, losers in the Premier League – as we see in a capitalistic market – are punished financially. And success in the Championship League is clearly rewarded.

By allowing teams to play their way into the league, any market can have a team. Consider the allocation of teams in the English Premier League today. Currently there are five different teams in the London area. This makes sense, since London is by far the biggest urban area in England. Of course, New York is the largest metropolitan area in the United States, and in each of the major North American sports leagues there are no more than two teams located in the Big Apple (a point I will return to in a moment).

In the English Premier League, though, there is no restriction on where the teams can be located. So we see three teams in the Birmingham area (second largest urban area), but Leeds (third largest in population) and Bristol (fifth largest in population) have zero teams. And the two teams leading the Premier League thus far this season are in Manchester (fourth largest in population).

A central planner would probably never have placed two teams in Manchester while skipping over Leeds and Bristol.

In contrast, North American sports leagues are planned. For a market to acquire a team, the existing owners must first agree to expand – or move an existing team. And then any new ownership group must be approved by those very same owners.

The existing owners have insisted that the large markets be restricted (again, New York doesn’t have more than two teams in any of the major sports leagues). Consequently the league has moved into smaller markets. To make this work, the smaller markets are encouraged to assist the team via taxpayer subsidies for new arenas. Furthermore, if the team struggles, high draft picks and/or luxury tax dollars are transferred to the team in the name of creating parity.

All of this is done in an effort to ensure that all teams are profitable. Yes, failure in North American sports is simply not allowed by the central planners. Not surprisingly (and consistent with Hayek’s contention that central planning doesn’t work that well) chronic failures – like the L.A. Clippers and Pittsburgh Pirates – are not uncommon.

Once upon a time, the Pirates often contended for and won titles. But since 1992, the Pirates have always been losers. Their ineptitude, however, pales in comparison to the Clippers. Since the Clippers came to California in 1978, the team has had only three winning seasons. And one of these was the first season in San Diego in 1978-79.

Had the Pirates and Clippers played in something like the English Premier League, the Pirates would have been relegated in 1995.  And the Clippers would have been gone in 1981-82, sparing Los Angeles this team entirely.

In North America, though, despite years of failure, both teams have been consistently rewarded by their league. The Pirates – via luxury payments from teams like the Yankees – are actually profitable. And the Clippers have routinely been granted high draft choices and – via the intervention of Commissioner David Stern – were recently given the amazing talents of Chris Paul.

The chronic failures of the Pirates and Clippers suggest that the ownership of these teams are less than competent. And in a capitalistic system, incompetence leads to failure. But in North American sports leagues, when incompetence leads to shortfalls in revenue, the league turns to the players and demands wage cuts to compensate the losers. < /p>

For example, let’s imagine that multiple basketball leagues were created in North America. Currently, beneath the NBA is the NBA Development League (which could be the Championship League equivalent). Beneath the NBADL, one could create another league. Any city or part of a city (i.e. Long Island in New York could have their own team) — could enter a team in a lower league. If that team was successful it could eventually join the NBA. And the teams that fail in the NBA would be removed.

Such an approach might end the small market vs. large market dispute because the advantages of the large markets — more specifically, the power to monopolize large cities — would end. And without this dispute, maybe the labor disputes that plague North American sports leagues could also end.

Of course, to implement this plan, North American sports leagues would have to end central planning and the desire of guaranteed profits. It is unlikely the owners of North American teams – who clearly profit from the current arrangement – would agree to such a move. In fact, it was reported a few months ago that North American owners would like to end the system of promotion and relegation in the leagues where these owners have invested in Europe.

If these owners were ever successful, then essentially American owners would be exporting central planning to a market-oriented industry in Europe.  And who would have guessed this would ever happen?