Wednesday August 25th, 2010

There's nothing wrong with a baseball team turning a profit. What is wrong is a baseball team that cries poor while posting 18 consecutive losing seasons turning a profit. This difference is why the Pittsburgh Pirates, whose financial data from 2007 and 2008, the 15th and 16th of those seasons, was made public on Monday, are the target of such recrimination. While positioning themselves as the victim of "the system" and trading away an entire starting lineup, the Pirates have been one of the most profitable teams in MLB, pocketing $29.3 million in 2007 and '08 combined, years in which they cashed revenue-sharing checks for a whopping $69.3 million.

The Pirates are the extreme, if inevitable, product of a system that has been put in place over the past 20 years, step by arduous step. The core problem is a revenue-sharing system that is designed not to level the playing field between teams in large and small markets, but to lower the returns on paying for players, and therefore the industry's labor costs as a whole. MLB has never once entered a negotiation with the union with any goal other than lowering labor costs, and all proposals, from a payroll cap to a luxury tax to revenue sharing, have been proffered with that objective foremost in mind.

The flaw in the current system is the use of actual revenues, rather than potential ones, in determining who pays in or out and how much. So a successful team in a legitimately small market will pay into the system while a poorly-run team in a larger market doesn't feel the pain of its inefficiency. There was a time, early in this construct, when the Philadelphia Phillies, with the game's largest one-team market to themselves, were recipients of revenue-sharing funds. At the same time the Indians, from tiny Cleveland, paid into the pool. When you base revenue sharing on actual revenues, you incentivize sloth and aggressively diminish a franchise's motivation to move upward, as gains in revenue will be offset initially by lost welfare payments. It's a zero-sum game -- one the Pirates elected not to play.

What this system does is lower the marginal revenue product of players. For instance, if signing Cliff Lee this winter will make a team six wins better, and those wins produce $4 million in revenue each, Lee is worth $24 million a season to that team, a figure that shapes an offer to him. When a team has to pay 31 percent of that revenue into a pool from which it may get back nothing, then Lee is worth just a bit more than $16 million per season to them, and that figure will shape the offer. This is the goal of baseball's revenue-sharing plan: to lower the return on player investments for individual teams in a way that keeps them from offering high salaries to top players, therefore tamping down salaries across the board.

It has been wildly successful. MLB pays less to its players as a percentage of revenues than does any major sports league. Overall spending on players, as a percentage of revenues, has fallen. The top end of player salaries has barely moved in a decade; Alex Rodriguez signed a deal for $23 million a season in 2000, and other than his subsequent bigger contract, the top end in terms of average annual value is just $25 million a decade later. It's not collusion, it's the effect of revenue-sharing on the market for players.

What the system doesn't do is level the playing field. It simply creates a welfare class of teams that can turn significant profits by keeping payroll down, knowing that if revenues fall, they'll cash a big check from the Yankees, the Red Sox, the Cubs, the Dodgers. What the Pirates have done may be morally wrong, and it's more than a little dishonest, but it's also economically rational for an ownership group that values steady profits over on-field success and the risk that pursuing the latter would entail.

You can fix this system, but to do so, you'd have to give up the salary-dampening features of it. MLB's problem isn't gaps in actual revenue, but in potential revenue, and a well-designed system would address those gaps. Gather smart people and have them quantify what it means to play in the Bronx versus Baltimore, or in Queens versus the Queen City. Establish the baseline differences in market sizes using everything but actual revenues. Then design a system that shares revenue according to those differences, leveling the gap between Kansas City and Philadelphia, rather than between the Royals and Phillies. If a team does a particularly good job of leveraging its market to make money, they shouldn't be penalized for that. Similarly, if a large-market team becomes a sad joke, they shouldn't get bailed out by dipping into the fund. Revenue-sharing shouldn't be punishment for failure or reward for success; it should be a tool to create a fair and level field of competition.

In a well-designed system, the Pirates would have the same incentive to improve, to compete, to win as every other team, because the money they would make by doing so would belong to them. There would be no diminishing returns. The revenue-sharing mechanism would properly adjust for their small market separate from their revenues, leaving them free to invest in their product with the same potential for return as the Yankees do. That is not the case today, and while the Pirates are the easy and obvious target, be sure to save some opprobrium for the owners, led by commissioner Bud Selig, who aggressively pursued this setup over the past two decades. The crime isn't the Pirates' decisions -- it's the system that made those decisions rational.

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