Monday, September 10, 2007

Irrational behaviour and the economics of football

Classical economic theory assumes individuals are rational. It is also assumed rationality involves:
  • People seek to maximise profit
  • People seek to maximise utility (satisfaction).
  • Consumers will seek to choose the goods which give thebest value for money
  • Firms will produce in the most efficient ways
However, in the real world we find that many markets cannot meet these assumptions of rationality. Football is a good example.

1. Economies of Scale and Mergers

Bristol City and Bristol Rovers have been languishing in the lower divisions for many years. If they combined their resources they may have a chance of hitting the big time. There are clear economies of scale in football. If their support doubled they would have more money to buy players and may have a chance of competing against the top clubs. From an economic perspective this merger would make sense, however, from a Bristol Rovers fan's you might as well as ask England to Merge with France. In other words, a sense of a club's identity is more important than achieving success.

2. Setting low ticket prices

Rather than setting profit maximising prices, clubs set prices lower so that supporters can afford to go. This doesn't increase the number of spectators who go to a game. It could be a full house at a higher price. It also means the club gains less revenue to spend on players. However, if they increase prices too much then they will get criticised by their own spectators. The football club has monopoly power but it chooses not to use it.

3. Supporting losing sides

Why do people stick with losing sides. Why go to watch Bury, when you could go a few miles and watch Manchester United play at a higher standard? Usually if we buy a good and it under-performs we switch to an alternative. However, football is not likely this. Brand loyalty is very high. No matter how bad the good becomes - people still stick to the same team.

4. Unrealistic Business Models

With the exception of Manchester United, if you want to invest money on the stock market, don't buy shares in Football clubs. Football clubs are notorious for having over optimistic business plans. The problem is that to do well, you have to invest in good players. However, to invest in good players you need money. Money comes from doing well and winning competitions. Therefore, it is a vicious cycle. If you can't get good players you can't win and get the money to buy them. Therefore, clubs have to borrow against expectations of good results in the future.

One example, was Leeds United. In one season Leeds United were in the semi finals of the Champions League, with the potential huge pay out of winning the competition. Greedy for success the club overstretched itself in buying new players. Unfortunately the club didn't quite meet their expectations. The income was not as high as hoped and they realised they couldn't afford to keep paying the players. Therefore, they had to start selling their best players just to stave off bankruptcy. As a result their form fell and the team was relegated from their premiership. They are currently languishing in the third division (called 1st division) starting the season with a 15 point penalty for bad book keeping. How the mighty have fallen. - from playing A.C. Milan to the likes of Doncaster Rovers.

There are probably 10 clubs basing their spending on being in the top 4 of the premiership. 6 clubs are bound to be disappointed.

No comments: