Chapter 6

1. The Economics of Sports FIFTH EDITION Chapter 6 The Public Finance of Sports: Who Benefits and How? Michael A. Leeds | Peter von Allmen

2. Building Stadiums • Cities dream that a new stadium will work wonders • They hope that it will attract new tourists who will • Generously spend before, during, and after the game and see other points of interest in the city • They see this as a way to revitalize old cities • They hope that fans will identify with the team • “New” is a key word

3. Learning Objectives • Show how a new facility can increase a team’s revenue stream • Recognize how new facilities might make fans better off even if they never attend a game • Appreciate how new facilities, new teams, or new events might contribute to a local economy—and why they generally add little.

4. 6.1 Teams Benefit From New Facilities • Construction costs for football and baseball stadiums now approach or exceed $1 billion • Even basketball arenas cost over $600 million • Ebbets Field, a extravagant structure, cost $750,000 when it was built in 1913 • Accounting for inflation, this is equivalent to a little over $17 million in 2011 • Something has changed!

5. Facilities, Attendance, And Profits • New facilities could attract people to the city • Baltimore Orioles and Cleveland Indians attendance surged at first • Their retro parks became very fashionable • The surge did not last for either team • Attendance in 2011 was lower than in its last year at the previous park

6. The “Honeymoon Effect” • Studies show that a new park brings higher attendance for about 10 years in baseball • The effect is shorter for other sports • Baseball games do not typically sell out, so there is more room for growth • Eventually, attendance is a result of wins

7. Facilities, Attendance, And Profits • The new Yankee Stadium drew fewer fans when it opened in 2009 • The depths of the recession • Nevertheless, ticket revenue rose • Ticket prices were much higher • This indicates low price and income elasticities • The biggest impact of a new facility is typically on the number, size, and price of luxury boxes and other special seating

8. LUXURY BOXES • NFL teams retain most of the revenue from luxury boxes • The average NFL team has 140 luxury boxes, • Over 50 percent more than in the NHL, which has the second most boxes • The NFL’s reliance on luxury seating is still growing • Table 6.1 shows financial and luxury seating information for the five most valuable NFL teams in 2010 • They also have the five highest revenue streams

9. Table 6.1

10. 6.2 How Fans Benefit • We distinguish between fans and cities • Cities benefit from jobs, income, and tax revenue • Fans benefit from rooting for the home team • Fans’ benefits are often intangible • Attending a game in a new facility • Following the team even if they never attend a game

11. Size And Shape Of Baseball And Football Stadiums • In this section, we show how the size and shape of baseball and football have changed over the last 30 years • Baseball stadiums have shrunk • Football stadiums have grown • Baseball and football now have separate facilities • Table 6.2a lists capacities of shared stadiums in 1961-1982 • These large facilities were all similar and round • Cookie-cutter shape

12. Table 6.2A

13. Separate Facilities • Table 6.2b lists capacities of separate facilities • The size of baseball stadiums fell by about 10,000 • The size of football stadiums rose by about 10,000

14. Table 6.2B

15. Sea Change • Until the 1960s, most football teams were tenants in stadiums built by baseball team owners specifically to house their teams • By the 1960s, football had become increasingly popular, and municipalities were paying much or all of the construction cost • They chose to construct multipurpose stadiums • The size of the multipurpose stadiums was thus a compromise , too large for baseball and too small for football

16. Shape Depends On The Game • Football teams play on a standardized, rectangular field • The bulk of the action takes place in the middle of the field • Seats at either end of the field give little perspective on the action and provide a poor view of most plays • See Figure 6.1 for an ideal shape of a football stadium

17. Shape of a Baseball Field • Most of the action on a baseball field takes place within the diamond that forms the infield • Best view is from a grandstand that extends outward from home plate along the foul lines • Figure 6.2 shows the ideal shape for a baseball field • In contrast, Figures 6.3 show a multipurpose stadium • It satisfies neither the football nor the baseball fan • Figure 6.3a shows the facility configured for baseball • Figure 6.3b shows the facility configured for football

18. Figure 6.3A

19. Figure 6.3B

20. Size And Shape of Basketball and Hockey Arenas • In the early years of professional basketball, hockey team owners frequently rented out their buildings to basketball teams when their teams were on the road • Table 6.3a shows that, as of the 2011–2012 season, 11 basketball teams still shared arenas with 10 hockey teams • As seen in Table 6.3b, only four teams shared a city or location and did not share a facility

21. Table 6.3A

22. Table 6.3B

23. Shape of the Game • Hockey and basketball arenas have similar sizes and shapes • Basketball and hockey teams move up and down rectangular surfaces, and scoring occurs at opposite ends of the rectangle • Conflict between basketball and hockey teams has been financial, not aesthetic • NBA teams tend to be primary tenants in their facilities • The most profitable hockey teams are all primary tenants in their facilities

24. Do New Facilities Create Better Teams? • Profit = R(w, A) - C0 - C(w) • Revenue (R) increases with wins, w, and decreases with the age of the team’s facility, A, as fans prefer to watch games in new facilities. • Cost has two components, • C0 is independent of wins • C(w) increases with additional wins • C0 rises with the new stadium, but C(w) does not • A new stadium increases profit if the added revenue exceeds the fixed cost C0

25. A New Facility And Wins • When does a new facility increase wins? • When it increases the impact of an added win on revenue • That is, if fans are more attracted to a winning team when it plays in a nice new facility • Figure 6.4 shows that if marginal revenue of a win is higher in a new facility • Teams with new facilities have a greater incentive to win • This is not observed in reality (Hakes & Clapp) • New facilities do not lead to more wins (Quinn et al.)

26. FIGURE 6.4

27. Teams as Public Goods • Recall from Chapter 3 that a public good is nonexcludable and nonrival in consumption • Game attendance is not a public good • Being a fan of the team and feeling pride in it is • Teams are local public goods in the sense that the feelings they generate apply to a particular geographic area • “Red Sox Nation” • Local sports teams sometimes reflect the aspirations of rival ethnic groups • French Canada has long identified with the Canadiens • FC Barcelona fans fought for it during the Spanish Civil War • Providing public goods is one role of government

28. 6.3 How Cities Benefit from Teams, Facilities, and Events • One function of government is to mitigate market failure that occur when • Markets fail to provide the right amount of public goods, • Markets overstimulate consumption of common resources • Markets become monopolized • In this section we focus on externalities

29. Externalities and Sports Facilities • Externalities are the uncompensated impacts of an action on a third party • The firm does not take the third party into account • It might not even know there was an impact • Externalities can be positive and negative • The rationale for public funding of a stadium or arena rests largely on the belief that the positive externalities of sports franchises outweigh the negative externalities for their communities

30. Figure 6.5

31. Negative Externalities • When a team plays a game, the spectators generate noise, overcrowding, pollution, and traffic congestion • This has a negative impact on innocent bystanders • For example, nearby residents • The external costs are the health problems and inconvenience of those people who are affected by the noise, overcrowding, pollution, and traffic

32. The Impact of a Negative Externality • Firms’ have a private supply curve Sp • Based on the cost of inputs • Intersection with D yields market outcome: Pp and Qp • Sp understates costs • Some costs are borne by 3rd parties • Firm does not compensate them P Sp Pp D Q QP

33. The Impact of a Negative Externality • Pollution is a social cost • Imposed on third party • Not part of supply decision • Social supply curve: Ss • Includes private & social costs • Socially optimal outcome is (Ps,Qs) P Ss Sp Ps Pp D Q Qs QP

34. The Market Fails P • Quantity is too high (QP>QS) • Price is too low (PP<PS) • Producers and consumers benefit at the expense of others • Government can impose a tax to reduce quantity to Qs Ss Sp Ps tax Pp D Q Qs QP

35. Positive Externality • Facilities can become landmarks over time and generate pride of the residents • Sports facilities also bring benefits to the neighborhoods, cities, and metropolitan areas in which they are located • Many firms and households that have no direct connection to the facility see their incomes rise as a result of its construction • Because they do not compensate the team for locating in the city, local firms and households benefit from a positive externality

36. Figure 6.6

37. The Impact of a Positive Externality P • Again, producers weigh private costs and benefits • Private benefits accrue to the firm’s customers • Set demand at Dp • Market outcome is PP,QP S Pp Dp Q QP

38. The Impact of a Positive Externality • Social benefits might exceed private benefits • Demand curve is actually DS • Quantity is too low (QP<QS) • Price is too low (PP<PS) P S PS PP Ds Dp Q QP QS

39. The Market Fails Again P • Too little is produced • The government can • Provide tax breaks • Subsidize production • This is the justification for stadium subsidies S PS PP Ds Dp Q QP QS

40. Facilities, Spending, and Tax Revenue • New facilities generate many different forms of spending • Constructing even the simplest of major league facilities produces hundreds of millions of dollars in spending and income • Once the facility opens, fans spend tens of millions of dollars to attend and enjoy a game • The spending by fans has a broad impact throughout the city

41. Table 6.4

42. Direct Benefits • The direct benefit of the Cubs to Chicago is the new spending the team generates • New spending takes one of two forms • The Cubs might cause Chicagoans to spend more—and save less—than they otherwise would • More importantly, the Cubs stimulate net exports by Chicago • The Cubs sell their games to “foreigners”—residents from outside of Chicago

43. Estimating the Size of Benefits • According to the Fan Cost Index, a family of four would spend ~$300 on a trip to Wrigley Field in 2012 • If the renovations to Wrigley Field attract 250,000 additional fans and the index remains unchanged • They will generate over $18 million in additional spending per year • This overstates the impact on Chicago • Cubs fans would have spent much of that money elsewhere in Chicago if there had been no renovation to Wrigley Field or even if Wrigley Field did not exist

44. Direct Impacts are Often Overstated • Proper evaluation must count only new spending • Much spending on teams is just reallocated • It would have been spent on another local activity • Teams are often conduits – not magnets • Revenue comes in – but it also goes out • Team pays salaries to players who live elsewhere • Items sold at concessions are typically made elsewhere

45. The Direct Benefits are Small • MLB generates less revenue than Fruit of the Loom • Three cities have all 4 major sports within city limits • Chicago, Denver, and Philadelphia • Chicago has 5 teams inside the city • The 4 sports combined account for less than ½ of 1% of total personal income in each city • The immediate effect of a new stadium on a city is thus small

46. Multiplier Effects • The direct effect is amplified by indirect effects • More spending generates additional income • Higher incomes increase spending • It is like throwing a pebble in a lake • The pebble generates ripples across the lake • The impact of a team spreads through the economy • Ripples in a lake slowly fade away • The impact on the economy also fades to zero • What determines the size of the ripples?

47. The Marginal Propensity to Consume (Mpc) • The MPC shows how much of the added income a consumer spends (DC/DY) • MPS = marginal propensity to save • MPC +MPS = 1 • A bigger MPC means bigger ripples • Added income generates more spending • Bigger ripples mean a bigger multiplier • The multiplier adds the ripple effects • It includes direct and indirect effects • The total effect is a multiple of the direct effect

48. The Arithmetic of the Multiplier • Let X = initial expenditure Y = total change in income Then DY=$X+$MPC*X+MPC*MPC*X+… DY=$X*(1+MPC+MPC2+MPC3+MPC4+…) • We know that MPC<1 • Therefore MPC > MPC2 > MPC3 etc. • The sum (1+MPC+MPC2+MPC3+MPC4+…) is the multiplier • The sum equals 1/(1-MPC) • If the MPC=0.9 then the multiplier=10 • A $43M direct impact has a total impact of $430M

49. The Open Economy Multiplier • In a closed economy, a person either consumes domestically or saves • In an open economy, a person can purchase goods from abroad • Purchases of imports do not have a domestic ripple effect • MPI = marginal propensity to import • In a city, imports come from outside the city • The multiplier becomes 1/(1-MPC+MPI)

50. The Multiplier for a Sports Franchise • Players get much of a franchise’s income • Players have more reason to save than others • Their high incomes last only a few years • The wealthy have lower MPCs • Athletes’ low MPC reduces ripples & multiplier • Much income leaks out of the local area • Few players & executives live in town • Leakages are especially severe in smaller cities • People spend their added income elsewhere • Local multipliers are closer to 1 than to 10