Player salaries and economic rents

Brian Burke opines on NFL salaries:

Personally, I think they’re all overpaid, rookies and veterans. If you ask most football players if they would still play football for $80,000 per year instead of $800,000 or $8 million, they’d say yes. It’s almost certainly a better proposition than whatever else they’d be able to do in the labor market. If Sam Bradford had the choice between playing in the NFL for $80k/yr or looking for an entry level job in Oklahoma City, what do you think he’d do? Every dollar above $80k is icing on the cake. Technically, it could be considered economic rent.

In economic terms, rent is a misnomer. It does not refer to money you pay a landlord for your apartment. It refers to the money above the minimum amount required to induce the employment of a resource. There is always rent claimed by both sides of all voluntary transactions, otherwise people wouldn’t agree to the transaction in the first place. . . .

It seems to me almost all of the economic rent in professional sports goes to the players. It’s hard to imagine any other multi-billion dollar company paying more than 60% of its revenue to a few hundred employees. It’s not that the salaries are high in absolute terms, it’s that the athletes should gladly play for far less.

I tend to agree… or do I? I am conflicted. It is a plausible account, but there is a lot of uncertainty there as well. One, the NFL and other sports leagues are already incredibly distorted markets, aided as they are by exceptions to anti-trade law and a general public (to say nothing of lawmakers and judges) who are fine giving the NFL monopoly power over professional football (which may be a perfectly rational and fine choice). Second, and more importantly, the lifespan of an NFL player is blisteringly short. I’ve heard a variety of estimates, but most often the estimate is put at around 2-3 years; never have I heard even five seasons.

This skews the incentives. Were Sam Bradford to have taken the $80,000 a year job, he would be giving up a lot now, but it’s much more likely that his other career would last far longer, and as a result his income would be much smoother. And of course the number one pick is not really the appropriate metric; it’s not evident that, from a financial perspective at least, making around $400,000 a year for three or even four years and then having no career prospects at all is better than starting in a $70,000/year job with growth potential and stability. (I know in this economy nothing is certain.)

Two points flow from this. The first is that it cannot be accurate to compare an NFL player’s salary with the salary of Joe Schmo, office manager. Their income stream is more like that of an artist, or even an entrepreneur — variable with their success, with great opportunity to be set for life, with also a high likelihood of bust. As I’ve pointed out, 78% of NFL players file for bankruptcy. As this NY Times article points out, it’s not easy to manage your money if it comes in irregular, large chunks, followed by long dry-spells.

And second, if you make your money at once you end up paying more in taxes than someone who earned the same total amount, in smoother fashion, over the same period. To use an example of an entrepreneur, imagine the there are only two tax rates: 40% if you make over $200,000 and 20% if you make over $45,000. If two neighbors both make $500,000 over five years, with neighbor 1 making $100,000 every year while neighbor 2 making $250,000 twice and zero in the other years, neighbor 1 will have paid $100,000 in taxes while neighbor 2 will have paid $200,000.

Is any of this determinative of whether or not football players make too much? No, but I think it all adds a significant layer of uncertainty to their ability to make a living that, particularly when coupled with the well documented health issues that come from playing football, including brain injuries, make high incomes somewhat more understandable, even if they could be characterized as raw economic rents.

  • 4.0 Point Stance

    The real issue is that, if Sam Bradford at age 15 knew that NFL no. 1 draft picks made only $80,000 a year, he might start to think of football as a hobby and not bother to spend the innumerable hours working on every facet of his game to ensure he was the no. 1 pick. So the quality of the sport goes down. In other words, the glitzy $8 million contracts act as a carrot not only to the players, but to every high school player in the country who knows for sure he’s going to make it to the NFL.

    Now, is this a good thing for society at large, that thousands of young men are singularly devoted to improving themselves at football as opposed to other endeavors? Probably not. Is it a good thing for the NFL and its fans? Definitely.

    As to the bankruptcy problem, the obvious solution would be for NFL teams to start paying players in long term annuities rather than all at once (although I’m not tax attorney. I don’t know if that solves the income tax problem or if the entire value of the annuity is imputed to the first year). That way they’re guaranteed a steady, if relatively modest, income well after their playing days end. The players and agents would never, never agree to this.

  • http://bpchesney.org Brian Chesney

    Hi Chris, this is a good response to Brian Burke’s post. I took a similar approach when I looked at this a little while ago — the need to factor in the sustainability of an NFL career vs. other careers when considering how much NFL players make (http://www.sociologicaldig.com/articles/nfl_uaw_labor_comp.html). I even have an interactive applet that shows that a player earning the league minimum would have to play for 6 years (no small feat, as you point out) to earn more than a 30-year autoworker (http://sociologicaldig.com/applets/nfl_uaw_comp/applet/index.html). Thought you might be interested.

    Brian

  • SC Gator

    Well, tax problem or not, I do like the idea of paying them in something a bit longer term. Say maybe paying half their salary up front, invest the other half in some form of long term investment. When they stop receiving NFL front money, due to busting or retirement, that investment gets turned over to them. If they choose to sell it off and buy booze and strippers, so be it, but the NFL can rightly say they tried to help their players prepare for life after the NFL.

    And no, players and agents will never, ever agree to it.

  • Black

    Playing in the NFL is NOT a living (that’s why its called Not For Long by many players). Your point about how the average career length is 2-3 years is important, but what is more important is the business of football. Football is so incredibly popular and makes so much money, that paying a football player $80,000 a year would be the equivalent to the pay a janitor makes who works for a fortune 500 company. It’s not “rent” its earning their value, even if it is just a game, people are paying.

  • Sporting Dude

    Persons who say NFL players are overpaid or underpaid do not get economics.

    I explain it all in one, fast-read blog post here: http://gridirongrotto.blogspot.com/2010/07/economics-of-nfl-in-one-lesson.html

  • Perry

    Brian Burke should run for office – he sure has the whole populism thing down.

    First of all, rent-seeking is first and foremost an owner’s game (in collusion with local and state level politicians). Look around at the billions(with a b) of dollars spent on stadia, tax breaks and other economic benefits given to owners of a team and multi million dollar player salaries start to appear rather reasonable in reference.

    Secondly, as monopolistic as some would say that sports leagues are – the fact remains that there are almost thirty ‘firms’ that compete for NFL labor pool. The average NFL player plays four years at a salary of about 3/4 million dollars. As gae of football ill-prepares most for the challenges of post football life, $3M in lifetime earnings is reachable by most business professionals.

    And this is all skewed by the enormous contracts given to stars. I bet if you asked Bill Polian whether he was geting a good deal by paying Peyton Manning his salary, he would with 99.99% certainty say yes.

    But I do guarantee you one thing – if NFL salaries suddenly dropped to $80 by fiat, I would promise you that all of the young athletes that provide the pipeline of players would find another sport to play, one that more matched their athletic potential, following one of the very few economic truisms – you get what you pay for.

  • JLK1

    The observation that “Gee, I bet these millionaires would rather keep doing their jobs for $80k than to quit working” seems obvious. I don’t see where it goes. It doesn’t explain much to me, and Burke doesn’t really go anywhere with it other than to make the jejune (word of the day) point that athletes sure seem to make too much money.

    He also observes that players collect 60% of league “revenues.” I’m have no reason to doubt this number, but is he talking about gross or net? After expenses? After taxes? Either way the 60% value strikes me as unremarkable. For most businesses payroll is their largest expense.

    There are more interesting economic observations to be made about the NFL. In a traditional business, when you grow, you expand. Production of NFL football games is capped, as is employment. When the NFL is successful, they make more money, but they don’t open more franchises, hire more workers, or produce more games. By contrast, if the league operated like many other businesses, they would employ tens of thousands of football players, dozens of franchises, and put on hundreds of games.

    What we have instead is a small fixed group of stakeholders engaging in a repeat play game where they divide the revenue pie amongst themselves. I see at least 3 forces driving player salaries upward. (1) The first is a wealth driven bidding war amongst teams. They have the money, so they don’t mind paying high salaries, to a point. It’s sort of a prisoner dilemma game, repeated. In the first season, player salaries are low. Then some team decides to spend more money and hire all of the best players. The other owners are then forced to compete. Ultimately it leads to the present salary structure. (2) The second force is the players union. They know the NFL’s finances, roughly, and through lockout threats and other negotiating tactics they extract as much money as they can. (3) Finally, basic supply and demand forces are at play. Elite football talent is scarce, and demand is high.

    Keep in mind that the whole thing is founded on the production of perhaps the most valuable entertainment product in North America. They aren’t just dudes kicking a ball around.

  • Brad

    To me this is like complaining that a diamond is 90% of the value of a diamond ring because if people didn’t want to where diamonds on thier fingers the stones would be just rocks on the ground (or industrial cutting tools).

  • Joel

    Mr. Burke’s analysis misses the point. Salaries of NFL players do not consist of any economic rents. Or at least not nearly to the extent he claims.

    The relevant analysis, in terms of economic rent, is not whether Peyton Manning would remain *playing football* if he only made $80,000. Rather, the question is whether he would remain playing *for the Colts*. Since there are other competitors in the market (e.g., the Titans) willing to bid his salary above $80,000, that answer is a resounding no.

    Thus, the “minimum amount required to induce the employment of” Peyton Manning is much larger than $80,000 by any *particular* actor because of simple market forces. Conflating the various NFL franchise owners with the entire league as a single market participant (not to mention the exclusion of the CFL, Arena League and the possible USFL that could sprout up and snatch Mr. Manning for the right price) misinterprets the realities of the marketplace.

    Furthermore, Mr. Burke’s analysis could apply in any high-wage employment situation, were we to similarly aggregate all market participants into a cartel. There is no doubt that if all Fortune 500 companies banded together and colluded only to pay CEO’s $200,000 many would remain in their position. But that’s a far cry from saying that CEO salaries above $200,000 consist of economic rents.

  • Not You

    “Are football players overpaid?” is asking the wrong question.

    If the question instead is: “Are ALL football players overpaid?”, the answer is, unquestionably, no. The average football player goes broke, and not always (not even usually) from excess… it’s because you’re a consumable. One severe injury, and most of them are done. Most of them just really want to play long enough to get on pension, so their health problems they WILL develop later in life will be guaranteed to be taken care of.

    If, instead, the question asked is: “Are SOME football players overpaid?”, the answer is equally obvious, and the answer is absolutely. Mr. J. “Purple Drank” Russell, formerly of the Oakland Raiders, is good evidence. There are absolutely players who would play for less, and could live comfortably on far less. Some, like Pacman Jones, probably would have lived far BETTER if they had earned far less…

    The trick then becomes, is there a happy medium? And, if so, where is it?

  • flounder

    I have to quibble with your tax explanation and whether it makes sense to make a bunch of money at once or less over a longer period.
    Someone making $80,000/yr is going to pay 7.6% in payroll taxes (i.e. Social Security and Medicare). This federal tax is very regressive (it hits low income workers) because it stops at around $105,000/yr.
    I make around $80,000/yr, and have paid anywhere from 16-24% over the past 4 years depending on deductions (I paid 24% the one year I was self employed because a self-employed person pays 15% in Social Security/Medicare on top of the rest of federal taxes).
    Someone making $4 million a year is paying 0.2% in SS/Medicare taxes.
    I bring this up because most tax comparisons of tax rates pretend that us regular folk don’t pay a sh*tload in SS/Medicare. For someone making $4 mil a year, their effective tax rates, assuming they hire a half-intelligent accountant, is going to be in the range of 20-25% (e.g. Warren Buffet claims to pay 18% and he is a billionaire).
    Another thing to think about is how it is possible to live off capitol gains, which are taxed at 15%. There is a reason that everyone suggests that lottery winners take the lump sum, instead of the 20 year annuity (even though it pay more). If someone who makes $4 mill one year socks $2 million of that into the stock market and make 5% returns, which isn’t huge, they are making $100,000 a year.
    And they still have time to sell insurance or whatever it is ex-footballers do for $80,000 a year.
    There is another story in here about people who come into a lot of money and blow it on cars and parties and stupid things, but again…that is another story.

  • KJ

    This is a stunning statistic: “As I’ve pointed out, 78% of NFL players file for bankruptcy.” But it’s not accurate. If you track back through the links, the source (SI.com) reports the number this way: “Although salaries have risen steadily during the last three decades, reports from a host of sources (athletes, players’ associations, agents and financial advisers) indicate that:

    • By the time they have been retired for two years, 78% of former NFL players have gone bankrupt or are under financial stress because of joblessness or divorce.” The “or are under financial stress because of joblessness or divorce” is important because that could mean a lot of things that do not at all equal bankruptcy, and it is unclear how much of the 78% fits into this category and not the bankruptcy category. So, too, is the way the report went from “gone bankrupt,” which can mean something short of having to actually “file for bankruptcy,” which the way it’s put above.

  • phantom

    If you pay the players $80,000 per year you make it economically feasible to start a competing professional league. Then you have competition for star players and highly-rated rookies which leads to higher salaries for everybody. Eventually you’ll have the same salary structure as the NFL has now.

  • Once more

    Burke doesn’t understand economics.

    It’s not about how much the players are willing to play for.
    It’s about how much people are willing to pay to watch them.
    That is their true value. Not their rent value.

  • Alex

    Chris, I disagree with your methodology. Here is why: an offer’s merits should be considered against the next-best-alternative. So, in the case of an NFL player, if the next best alternative is working a $35,000/year job (let’s convert to a wage rate based on a 2,000 hr work year: $17.50/hr), then that player should be willing to play for $17.51/hr, all other things equal (obviously a risk-premium should be added for a football player, compared to a clerical employee).

    With that said, the original thesis is ultimately the problem with attempting to value an asset (and a player is most certainly an asset). I think most reasonable finance professionals would choose one of two valuation methods: resale value (think residential real estate), or the value of future expected cash flows (think stocks). I suspect a football player’s salary closely reflects the future value of cash flows than can be attributed to their performance. Use baseball free agency as an example, since there are fewer market restrictions. It is LOGICAL that the best players (who happen to be the highest paid) play for the Yankees. By playing for the Yankees the maximum value for those players can be unlocked, and they’re compensated accordingly.

  • VLB

    But really, isn’t the value of a player the difference between how much the fans will pay to watch a replacement players as opposed to the ones who would not work for less? If it is a fan based calculation as opposed to a market analysis of appropriate salaries?

    Obviously, the anti-trust issue looms there, which is one reason why the NFL could never drastically reduce salaries, because their anti-trust exemption balances on a tide of public good will which is dependent on whether the public thinks they are behaving fairly.

    I do think that even given the brief lifespan of an NFL career that most players would think it was worth it to spend three or four years getting paid more than they would ever hope to get paid in other professions, then it would be to begin a career in those other walks of life. Those careers are presumably there to be begun after they make much bigger incomes in football.

    Concerning whether athletes will continue to play sports, I don’t think there is much evidence that pay is the primary reason why players play. Huge salaries are a relatively recent development in the life of professional sports. I would not think the player pools are much different domestically than they were before.

    I do think if the major three sports did not pay as much, the talent would be more equally dispersed among professional sports in general. You might see the long awaited American soccer revolution if the living you made in MLS was comparable to that of MLB, NFL, and the NBA.

  • Nathan S

    People have already really made good comments on the ridiculousness of Burke’s argument from an economic standpoint (4PS, Perry, JLK1, Joel, Flounder, especially), so I will keep mine very brief and from a practical standpoint: I don’t really understand the where the money from football IS supposed to go. 60% of the money goes to players, ok, now 40% goes to management? stadium security? maintenance? Say we cut it down to 80k salaries, freeing up a wild guess of 40% of the profit.

    Assuming that they aren’t just going to slide all that extra cash on to the owners, the question becomes what do to with that money. Simply, in order for a business to become more profitable, it has to increase its ability to make a product, or increase the value of that product, excluding the inverse of this which is to limit product on the supply side or decrease the value of competing products. And what is the product of a football company? Producing a sport that people will watch. What do people watch? Maintenance? Security? Coaches? While stadiums and maintenance have a direct impact on ticket profitability, these days we could envision a stadium without any fans at all, just cameras. These stadiums would make a helluva lot of money anyway, because a lot of NFL revenue is in television, and increasingly, the internet. This means that the primary investment in football, after the methods exist for delivering the product (minimally, grass, painted lines, officials; television companies would bring their own cameras if it were popular enough, not sure about the logistics here), should be securing the raw materials (read, extremely talented athletes) needed to make the most desirable product possible.

  • stan

    I think he has misapplied the definition of economic rent.