The economics of sport: An application to the auction market for thoroughbred racehorses

This paper analyzes the overpayment phenomenon in professional sports using evidence from the market for Thoroughbred Racehorses. The economic literature on sports leagues puts forward the proposition that, when the market for labor services is unrestricted, bidders for athletic talent pay wage rates that exceed the marginal revenue product of the athlete. The source of this overpayment stems from the non-monetary desire of owners to win championships. The common notion is that if the bid is not high enough, the purchaser may lose out. Therefore bidders at auction constantly overbid.;Three models are constructed in an attempt to fit this behavior. The first model, assumes that an investor obtains a constant level of utility from ownership, and implies that the rate of return from the horse is an increasing function of its auction price. The second assumes that utility is a linear function of the quality of the horse. This model implies that the rate of return is invariant across horses with different ability levels and lower than the return on financial assets with similar risk. In the final model, utility is considered to be a convex function of the horse's ability, i.e. that owners will pay increasing marginal amounts for increments in ability. This generates the result that returns decrease with ability.;Auction prices, costs and earnings are used to evaluate these models. The rate of return to purchasing horses is negative, consistent with the overpayment hypothesis. The rate of return appears to increase with ability, which suggests that the constant level of utility model is consistent with the data.