Zach Lowe invents a new wage hypothesis

by on July 3, 2017 at 2:59 am in Economics, Sports | Permalink

The league and union introduced the super-max to give incumbent teams more of an edge in retaining superstars. If the Bulls indeed felt queasy about the possibility of spending it on Butler, he becomes the second player — alongside DeMarcus Cousins — dealt at least in part because the incumbent team didn’t really want that advantage. Paul George may mark case No. 3, though Kevin Pritchard, Indiana’s GM, sounded heartbroken Thursday about the inevitability of George playing elsewhere. The super-max may be having almost the opposite of its intended effect.

The Bulls were rather publicly uncomfortable with the idea of Butler as foundational player.

Here is the full article, by Zack Lowe, one of the best writers around.  Quick, what is the dual wage hypothesis for CEO pay?  For academic hiring?

1 Stephen Oates July 3, 2017 at 4:07 am

It is Zach not Zack.

2 Daniel Cañueto July 3, 2017 at 4:39 am

NBA is the funniest way to learn about unintended consequences of regulation.

I actually think more about this in production terms. Teams are like products beloved by consumers, and players are the raw material. Sometimes, by cost increase of some raw material, production becomes too expensive and it is better to change the ingredients to produce a similar kind of product that is not prohibitive to produce. However, fear of consumer anger forces to keep selling the original product despite incurring in losses.

At least in NBA you can predict when the cost of raw material will increase.

3 Matt July 3, 2017 at 5:40 am

” However, fear of consumer anger forces to keep selling the original product despite incurring in losses.”

Losses in owning a professional sports team are hard to figure out, however, and not just because of the very shady book keeping that most teams engage in. (A normal example: same person or group of persons own the team, and the building the team plays in, but under different corporate entities. The owner of the building charges the team for rent, leading to “expenses” for the team, even though it’s just moving money from one pocket to the other. Another way to do this: same person or group owns the team and the parking lot, but the “team” gets very little out of the parking lot, leading to claims that it has a bad revenue stream, even though revenue for team and parking both go to the same person or group. There are many, many other variations. It must be a fun area to be a smart accountant.)

The more important feature is that the increase in value of the teams has been tremendous, so that even a team “losing money” can be sold, at any time, for a huge profit. It’s been extremely lucrative, even considering operating costs, to own a pro sports team, even less attractive ones like the Milwaukee Bucks or something. Perhaps this won’t go on much longer, if the impending crash in TV money caused by changes in cable TV consumption comes about. But, in recent years at least, owning a pro sports team has been one of the most profitable things a person can do, even if the team is bad, poorly run, and shows operating losses. Too bad it costs so much to get in on the scam!

4 DanC July 3, 2017 at 7:31 am

Ancillary revenue streams are usually reflected in the price paid for the team.

5 Matt July 3, 2017 at 7:42 am

Sure – I’m not disputing that, just pointing out two different ways that claims about “losing money” in relation to owning sports teams typically reside somewhere between grossly over-put and flat out BS.

6 DanC July 3, 2017 at 8:32 am

The main reason the franchise value increased is because they kept finding new revenue streams and the league shared those revenue streams. Has that growth peaked? or slowed? What is the rate of return on their investment? What if billionaires find new toys to buy (less ego and more profit)?

The NHL is only profitable, I have read, because of the sale of new franchises. The growth of other revenue sources is nil.

ESPN is bleeding money. Is that a sign that sports marketing is reaching saturation with slowing growth or that other media is reducing revenue?

Will player mobility increase interest in the NBA or weaken bonds?

Even owning a sports team involves risk and if you turn almost as much profit with a $100 million dollar payroll as a $400 million payroll how long will you spend the extra money? $100 million here, $100 million there, pretty soon you’re talking real money.

7 Jury July 3, 2017 at 5:09 am

Should I hope for “Conversation with Tyler” with Zach?

8 EconHoops July 3, 2017 at 12:22 pm

Uh, yes please

9 FG July 3, 2017 at 1:25 pm

+1, +1, +1!

10 Asher July 3, 2017 at 6:34 am

Begging your pardon for parading my ignorance. Can someone explain to me in one paragraph what Lowe’s wage hypothesis is? And why Tyler calls it a “dual wage hypothesis”?

11 Daniel Cañueto July 3, 2017 at 6:46 am

I guess he means when there is some regulation that causes that wage to pay for a worker is different depending on the employer. For example, setting maximum salaries for some kinds of job makes employers not able to retain talented workers.

12 DanC July 3, 2017 at 7:19 am

It would seem, as hard as it is to imagine, that true NBA superstars are underpaid. And that the next level of players are overpaid as teams without true superstars overpay for the rights to very good but not great players. How to calculate MC equals MR in this marketplace is difficult. Some teams seems to base it on the MC of wins, others on profits. The MC to retain players for Golden State, given the luxury tax, seems to make the cost of additional wins very expensive. San Antonio seems to get a bigger bang for their buck and more consistent year after year returns.

LeBron James seems to have hit on the new market ideal. Superstars max out the salaries at one location then move to another location before the luxury tax penalties make quality supporting players too difficult to sign.

13 DanC July 3, 2017 at 7:23 am

BTW that implies that we should see more 2-4 year contracts for players and a lot more player movement. With shorter careers for players with average talent.

14 Mark July 3, 2017 at 7:47 am

As Tolstoy said about unhappy families, each star-team relationship is different. Players want status primarily, and, once one has made SOME money, getting the max amount confers the next bump up. But winning championships adds status as well, and that introduces a tradeoff. The player has to assess the team’s ability to win one with him, which likely requires he take less than a max contract so as to attract more talent. A third status factor is market glamour which is why Miami and the Lakers have advantages especially in a winter sport.

The team in turn has to make its own calculation about those last two factors (can we compete at a championship level with him and how likely is it we can attract high caliber talent to replace him or complement him).

15 DanC July 3, 2017 at 8:12 am

I hear that players will take a pay cut to play for a winner. Seems pretty rare. Sometimes a player will go to a team on a short contract if that team can showcase his talent and allow him a bigger contract later. Most careers are short and involve risk, they make what they can while they can.

I don’t see LeBron taking a pay cut to join Golden State.

16 Bob July 3, 2017 at 10:10 am

LeBron’s profile is more than big enough where he is. Would he sell more shoes if he moved to the Warriors? I doubt it. But he sure could use a better supporting cast.

17 Andre July 3, 2017 at 12:31 pm

I find the Warriors players seem to have better access to the Chinese market that some other teams. We did a mini linsanity out here before he went to NYC, really seemed to spark things.

18 mavery July 4, 2017 at 1:16 am

Kevin Durant literally just took a large paycut to stay with Golden State. He’ll make $9 million less this year than he otherwise could’ve (~$25M vice ~$34M). Because of how the NBA’s salary cap works, this pay cut went to some combination of future team payroll flexibility/funds to retain veterans (Andre Iguodala and Shaun Livingston). The owner will also pay less in luxury tax, making him more likely to continue spending going forward.

Obviously, you can make an argument about lifetime wages, including endorsements that will be worth more post-retirement if Durant is a multi-time champion, etc. But to a first order, he took a huge paycut to play for a winner.

19 DanC July 5, 2017 at 9:41 am

Durant took a $6 million cut in pay. Which given his tax bracket and agent cut is much less in take home. Not to mention his outside income is greater then his salary and being on a dominant team increases those opportunities – perhaps more then $6 million. Simply Durant is far from a typical NBA player. Plus the chance to live in an area he prefers and feels more comfortable with the social scene. Playing with teammates he likes. Plus his total compensation probably didn’t shift much. Not a typical situation. But looking at the margin understandable.

http://www.msn.com/en-us/news/other/5-key-financial-details-about-why-kevin-durant-took-dollar6m-less-than-expected-in-free-agency/ar-BBDHQ60

20 Dean July 5, 2017 at 12:13 pm

FYI – LeBron literally took a pay cut to join the Heat.

21 DanC July 5, 2017 at 5:41 pm

LeBron took a pay cut to go to Miami. But given Florida lacks income taxes I wonder what his after tax income, especially if you include outside income, looked like. Plus he insisted on max contracts since then. A step back in salary to take a step forward in outside income?
Michael Jordan wasn’t the highest paid Bull but given his massive outside income did it matter much. He even took a pay cut to play baseball. In part I suspect because his outside income was so huge. Most NBA players don’t have the massive outside income and the vast majority seek to maximize income in a risky business with short careers

22 bob July 5, 2017 at 6:46 pm

LeBron took less than the max when he joined the Miami to allow the Heat to sign Chris Bosh. Economically, the value of playing on a winning team may bring in enough incremental endorsement dollars that a player can still maximize income if he plays on a slightly lower contract.

23 eric July 31, 2017 at 2:27 pm

LeBron took a modest pay cut to join the Heat.

24 Mark July 3, 2017 at 7:53 am

I also suggest there is no comparison to compensation matters in large organizations, although there may be to startups. An NBA star plays roughly 1/7 of his team’s minutes and is responsible for 1/5 or more of its scoring. A different order of magnitude than any employee in a large organization.

However, I do think Pareto’s 80/20 observation is generally true in the NBA and generally reflected in compensation, which I think has interesting implications for income inequality.

25 DanC July 3, 2017 at 9:06 am

Superstar players have some leverage over the owners. Superstar CEOs, Steve Jobs for example, hold some leverage over the board of directors. LeBron James can convince management to overpay for JR Smith and Thomas because he has leverage.

Superstar faculty influence hiring decisions, especially if the superstar generates revenue for the school. (Prestige increases revenue in many, but not all, fields.) In addition Superstar faculty can attract better quality graduate students and additional faculty who want to link their reputation to the superstar. While it is more enjoyable for most professors to teach higher quality students, I’m not sure how they balance salary demands with that opportunity. If the school has more prestige, demand increases, tuition or ancillary revenue can increase.

26 DanC July 3, 2017 at 9:11 am

BTW the clearest example of the above is in the highest compensated department in colleges, the athletic department

27 The Engineer July 3, 2017 at 7:59 am

It seems to me, based solely on listening to sports talk, something changed in the playoffs. The Warriors were so stupidly dominant, that all strategies other than “superteams” were suddenly abandoned.

It is not enough to have a team built around one “superstar” (and Jimmy Butler is a Scottie Pippen style No. 2, not a Jordan style superstar anyway.) You need to have 3 bonafide superstars to compete for a championship in this league, minimum.

Next year, you are going to have a couple few teams trying to be “superteams”, and all other teams trying to pull a “76er”, being so terribly awful that they load up on draft picks, trying to build the next “superteam” from scratch.

28 msgkings July 3, 2017 at 12:09 pm

This. This NBA offseason has kicked into a whole other gear due to the Warriors and the new TV deal bumping up the salary cap dramatically.

29 mavery July 4, 2017 at 1:29 am

Quite the contrary. Most teams this past off-season have looked to load up rather than tear down. The Clippers, upon losing Chris Paul, could’ve gone full reubild, but instead they threw a supermax at Blake Griffin. The Pelicans and Raptors kept their core together rather than bail, and Denver made the biggest free agent signing of their franchise’s history, bringing in Paul Millsap in an attempt to insert themselves into the conversation in the West. The Celtics and Heat continue to pursue top free agent Gordon Hayward while Utah is fighting like hell to keep him, sacrificing assets to bring in the point guard Gordon prefered. Multiple teams including the Rockets (after acquiring Chris Paul) were chasing Paul George before he was inexplicably dealt to the OKC.

You can’t really find any playoff team from last year besides the Bulls and Pacers who have punted on this season, and in both of those cases, it’s because they weren’t getting out of the first round as constructed. The Warriors had nothing to do with it.

Granted, even with all of that there’s only 5 or 6 teams that will have any chance at the title next year, and all but one are in the West. But that’s been true since LeBron went to Miami. What the Warriors have done is create a chasm between themselves and the 2nd-5th best teams. This has had basically no impact on how the 15th best team behaves.

30 Dots July 3, 2017 at 2:48 pm

In the NBA only about half of the teams seem to try to win, in any given year. I remember our cuck supersonics ownership gave Ray to the Celtics, and soon thereafter the Grizzlies loaded the Lakers up with Pau. maybe with superteams average is over and only a handful of teams will deliberately build to win

Need promotion and relegation to motivate loafers, encourage les autres

I thought Lakers with Kobe and Howard were superteam, too. Then Harden and Howard. I didn’t suspect Howard couldn’t win

Did Ballmer buy NBa bubble top?

31 Dots July 3, 2017 at 3:53 pm

Shocked that Cleveland and Boston didn’t try harder to get Butler. Seems like a lot of teams show the potential over proof bias that Robin H describes

To win a championship u must guard Durant Curry Thompson, and u must score loads of points. To win the east guard Lebron and Kyrie. How many players – let alone available players – r better suited to that?

Seems like too much long-term planning happens in a sport with some brief championship windows

32 bob July 5, 2017 at 7:00 pm

But the other distortion in the NBA is that each team has a salary floor. So if a team passes on signing a star they still have to hire some new, expensive players. Sacramento signed George Hill, a decent point guard and Zach Randolph, who is 36 and was relegated to the bench last year in Memphis, for a combined total of 31 million dollars a year. Are they better than Cousins?

The required salary cap minimums for each team lead to distortions that allow mediocre players to receive outlandish contracts. Otto Porter, Jr. receiving offers from at least three teams of a four year, 102 million contract is a sufficient example.

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