The Effect of the UEFA Champions League Financial Payout System on Competitive Balance in European Soccer Leagues
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The Effect of the UEFA Champions League Financial Payout System on Competitive Balance in European Soccer Leagues Nathan A. Vestrich-Shade Advised by: Timothy Lambie-Hanson Senior Thesis in Economics Haverford College April 28, 2016 Abstract The paper examines the effect of UEFA Champions League payouts on competitive balance across European leagues. A league-level specification identifies the magnitude of the effect of the UEFA payouts on three measures of competitive balance. The results confirm that the UEFA payouts have a statistically significant effect at the league-level depending on which competitive balance measure and league sample is used. However, the UEFA payouts had no statistically significant effect on individual clubs’ average annual payroll or the clubs’ qualification for the Champions League in the following season. Nathan Vestrich-Shade Table of Contents Section I: Introduction………………………………………………….........................................3 Section II: Literature Review……………………………………………………………………...4 Section III: Data…………………………………………………………………………………...9 Section IV: Methodology………………………………………………………………………...12 Section V: Results………………………………………………………………………………..15 Section VI: Discussion…………………………………………………………………………...19 Section VII: Conclusion………………………………………………………………………….23 Appendix…………………………………………………………………………………………24 References………………………………………………………………………………………..40 2 Nathan Vestrich-Shade Section I: Introduction Over the years, select clubs in European domestic soccer leagues tend to “control” the spots at the top of the end-of-season table. Champions of the domestic league qualify for the UEFA Champions League,1 a pan-European competition that pits the best European soccer clubs against each other. Teams that qualify for the Champions League receive financial payouts from UEFA based upon their performance in the competition2. For the 2014/15 season, the eventual champion, FC Barcelona, received over 61 million Euros3. The UEFA Champions League provides a unique lens with which to analyze competitive balance across European domestic leagues because only teams that qualify are capable of receiving the financial payout. To that end, this paper attempts to measure the effect of the UEFA Champions League financial payout system on competitive balance across European domestic leagues. One plausible theory is that UEFA Champions League teams receive the financial payout and put it toward the total payroll of the club. As a result, these clubs can spend more in the transfer market and buy higher quality players. The higher quality players increase the quality of the club and consequently, increase the probability the club will qualify for the Champions League in the following season. Greater concentration of player talent reduces the quality of matches played in the domestic league through a competitive balance effect. The research seeks to test the theories empirically at the league-level from the 2003/04 to 2014/15 seasons and club-level from the 2008/09 to 2014/15 seasons for a range of European leagues. With panel data on leagues, I estimate the effect of Champions League payout revenue 1 Some domestic leagues have more than one club qualify for the UEFA Champions League. The number of clubs that qualify is determined by a UEFA coefficient. 2 In addition, there is a “market pool” component for tv revenue. 3 See: http://www.uefa.com/MultimediaFiles/Download/competitions/General/02/29/45/25/2294525_DOWNLOAD.pdf. 3 Nathan Vestrich-Shade on competitive balance across domestic leagues. At the club-level, the data will measure whether club payroll is the mechanism through which the UEFA payouts operate. The payouts increase the total revenue of Champions League clubs, which can be spent on higher quality players. Furthermore, the panel data for clubs is used to test for a self-reinforcing effect over time: Do payouts to one club from qualifying in a given year affect that team’s probability of qualifying in the following year? A significantly positive effect would “crowd out” other teams in the domestic league from qualification, leading to lower competitive balance. A league with low competitive balance is less exciting for consumers. If there is a significant effect in which the UEFA payouts reduce the level of competitive balance, there may be a stronger platform for introducing regulation into European soccer. The exact type of regulation used is not within the scope of this research. However, one policy may concern cutting the UEFA payouts. The issue considered is timely as UEFA has recently raised the size of the financial payouts.4 Therefore, if a significant effect exists, it may become more pronounced, increasing the cost to teams of missing qualification and to fans of less exciting contests. Section II discusses the relevant competitive balance literature. Section III and IV introduce the data and methodology used, Section V presents the results, Section VI discusses the results and suggests policy reform, and Section VII concludes. Section II: Literature Review The foundation of this paper rests upon the notion that Champions League payouts reduce the competitive balance of the league. Successful performance in the Champions League enhances a club’s concentration of player talent. Under conventional monopoly theory, the 4 For more information, see: http://www.uefa.org/stakeholders/clubs/news/newsid=2229945.html. 4 Nathan Vestrich-Shade monopolistic firm charges a higher price to consumers and reduces quantity produced. While the clubs lack a monopoly on player talent, the greater concentration of player talent leads to a decline in competitive balance. The lower competitive balance does not reduce the quantity of matches played, but it does reduce the quality of matches. Monopoly control of player talent is most observable in Major League Baseball during the reserve clause era. Prior to the removal of the reserve clause, the club had total control over the player: He could not move teams once a contract expired. Therefore, wealthy teams could collect player talent and remove it from the talent pool available to competing teams. After the introduction of free agency, empirical research shows competitive balance has increased. However, the mechanism that led to the improvement has been debated. Butler (1995) provides empirical results that attempt to synthesize the existing explanations in the competitive balance baseball literature. He finds that the effect of various mechanisms on competitive balance is contingent upon the measure. For free agency in particular, it has no significant effect for one measure of competitive balance and increases competitive balance under the other measure. The only variable that has consistent effects across both measures is the amateur draft, which improves competitive balance. Competitive balance has been studied in many sport contexts. Szymanski (2003) identifies three types of competitive balance at the match, seasonal, and championship level. A subtle distinction is between seasonal and championship competitive balance. As Szymanski explains, “Seasonal uncertainty means a close championship race within a season, while championship uncertainty means there is a variety of champions over a period of years, rather than domination by one or two teams” (1155-1156). This research will focus on the effect of Champions League payouts on the competitive balance at the seasonal level. If the payout 5 Nathan Vestrich-Shade system has a large effect, competitive balance will be low in each league. These effects should hold at the seasonal level and become more pronounced over time as a few select clubs accumulate payouts. Zimbalist (2002) examines competitive balance trends in baseball, ice hockey, basketball, football, and English soccer. He attributes the unique relegation system in soccer as a source of incentive for teams in the league to maintain a high level of competitive balance, differentiating it from American sports leagues. However, he does not include a robust empirical section to measure this effect. European soccer lacks some of the competitive balance “stabilizing” systems found in US professional sports. Salary caps and drafts tend to be effective ways to control competitive balance. For instance, Larsen, Fenn, and Spenner (2006) show that “free agency and salary cap restrictions tend to promote competitive balance” in the National Football League (374). Similarly, Dietl, et. al. (2012) use a theoretical model to illustrate a “percentage-of-revenue cap” increases competitive balance in European soccer (307). Therefore, a similar salary cap system in European soccer may provide a means through which to control for higher levels of competitive balance. As noted earlier, Butler (1995) concludes that the draft in MLB increases competitive balance. Without such regulation, European soccer leagues may be more susceptible to greater concentration of player talent. Revenue sharing systems in sports leagues are viewed as a source to control levels of competitive balance. Results in this realm vary. For example, Kesenne (2000) determines that revenue sharing has positive effects in profit-maximizing and utility-maximizing settings (56). However, Maxcy’s (2009) research on the MLB shows that when revenue disparities among teams run high, redistributive revenue sharing models lead to a decline in competitive balance. 6 Nathan Vestrich-Shade In particular, the weakest teams in the league had “incentives to divest talent” (275). The author references several examples. For instance,