Inflation And Prospects

Until last year, baseball had seen steady salary inflation of nearly 10 percent per season for over a decade, as free agents cashed in on ever growing contracts. Teams counted on this inflation to justify long term deals, as the assumption was that a player would not decline much faster than salaries grew, keeping his relative value fairly steady even if he lost value on the field.

That assumption has to be thrown out the window now, however. Despite signs of economic recovery in the U.S. (the stock market is going to close up 20 percent in 2009), we’ve seen a significant pullback in spending for the second consecutive year – Jason Bay notwithstanding.

Trying to project future inflation now is just a guessing game. Will salaries increase again in the future? Probably. How quickly? No idea. Teams are learning how to restrain themselves from spending sprees in the winter, finding value in players they used to overlook. The acceptance of concepts such as replacement level have taken some of the mystique away from veteran players with track records, as teams are less willing to pay for what a player did in the past.

What I think will be interesting to watch is how this unpredictability of future salary growth will affect how willing teams are to pour money into scouting and player development. During the age of booming inflation, players with 0-4 years of service time were remarkably valuable, as they could provide production at minimal cost.

If we do not return to that kind of inflation, however, the relative salary difference between young players and veterans will be significantly smaller than it has been in the past. And with a smaller gap in cost, it may be become more viable to build a team with established players.

For instance, this winter, teams have been able to sign useful major league players for a couple million dollars. Kelly Johnson got $2 million from Arizona. Adam Everett got $1.5 million from Detroit. A ton of average-ish infielders signed for $5 or $6 million per year for one or two years.

If that remains true in future years, then it reduces the desire to spend millions on prospects with fractional chances of making the majors. The previous cost differences were great enough to make it worth investing in a lot of prospects, reaping the benefits from the ones who make it, and building a team of good young players to avoid having to pay the market premium. But now, if we continue to see years where near average players can be had for $2 to $3 million per win, then the player development calculation makes less sense.

If we don’t see a real up-tick in spending next winter, expect some teams that have traditionally focused on building from within to do less of that going forward. Buying wins in free agency, rather than developing them through the farm system, may be the new trend if inflation doesn’t return.

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Dave is a co-founder of and contributes to the Wall Street Journal.

29 Responses to “Inflation And Prospects”

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  1. R M says:

    Interesting read. The thing is, can a team of average-ish players picked up for bargain prices in free agency win a championship? Probably not. Can a well-run team use prospecting to eventually build a competitor? Well, we’ve already seen two teams do it (Rays and Marlins*) and the Orioles look to be on the way. Teams may use this trend as a bargaining position with prospects, so it may be that signing bonuses fall along with free agent prices, but you really think a rebuilding team is going to make less of an effort to acquire young, high-upside players because there are average players available who cost less than they used to? Unless the owner’s goal is simply to maximize profit and put a passable team on the field, it still doesn’t make sense for a team like the Nats or Pirates to sign a bunch of “near-average” players instead of going after high level prospects.

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    • Dave Cameron says:

      I’m not trying to suggest that teams are going to stop paying for premium prospects or shy away from top tier young players. But, realistically, there are less than 30 of those types of guys available in each draft, and maybe a handful of international prospects with that kind of upside in a given year.

      The top tier of prospects won’t be affected, but those guys are a small fraction of the population.

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  2. Glen says:

    “If we don’t see a real up-tick in spending next winter, expect some teams that have traditionally focused on building from within to do less of that going forward. Buying wins in free agency, rather than developing them through the farm system, may be the new trend if inflation doesn’t return.”

    Doesn’t the first sentence describe how inflation will occur? As the quantity demanded of established free agents increases, won’t we see an increase in the price of free agents?

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    • Travis says:

      I was asking myself the same questions. I think the answer will be very similar to the way most economies work. A cyclical pattern that I think we’ve already partially seen – Free Agents will be over-priced for awhile and teams will look to prospects and young players to fill roles, reducing demand on the free agent market resulting in more teams looking at the free agent market and thus increasing demand, driving salaries back up. I think we’ll see a time again where inflation is near 20% and veteran players are way over-compensated relative to the value added.

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  3. NEPP says:

    The stock market is honestly not the best tool for analyzing the current state of the economy. It could very well be an artificial bubble built on the injection of vast amounts of “created” capital in the guise of the “bailouts/stimulus packages”. In a recession, its known as a secondary bubble/aftershock. There’s a decent chance that it will collapse again once the next round of ARM loans mature in the next 2-3 years.

    On the baseball aspect, I think that unless you are a top player, you’re value on the open market has declined quite a bit. It will be interesting to see how much teams spend on the June Draft in light of the current economic issues. The attendance numbers for the first 2 months should be interesting as well as that will be an indicator on how much disposable income the average fan still has and is willing to commit to going to a game in person over staying home and watching it in HD for free.

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    • diderot says:

      I had the same thought on the connection between ‘economic recovery’ and the stock market.
      It’s almost identical to concluding that the ‘best’ pitchers are the ones with the most wins.

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  4. Corey says:

    What isn’t talked about here is that if more teams start looking at veterans again because they are perceived to be “cheap,” then the equation changes back to the players. More bidders means more money for the player. I doubt the emphasis on player development is going anywhere.

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  5. Matt Hanna says:

    I’m curious if and how teams are going to use inflation/deflation to its advantage in salary negotiations. A forecast of inflation/deflation has a serious impact on salary. If a club forecasts moderate to high inflation in the coming years then a backloaded long term salary can be highly beneficial to the squad, even if it appears they are overpaying.

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    • The A Team says:

      Clearly the Mets official who stated that the Mets’ offer to Bay was worth less in present value than the Red Sox offer was using a ridiculously high inflation rate…

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  6. The A Team says:

    It’s difficult to imagine inflation not setting in again so long as revenue streams keep growing…Teams may become better at recognizing mediocre talent, but payrolls will continue to grow.

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  7. joser says:

    So attendance dropped something like 7% nationwide, though some teams like the Jays and Indians and Nats got clobbered while others like the Phillies, Rays, and Rangers (not to mention hard-to-go-lower teams like the Marlins and Royals) actually recorded modest increases. And that number was also distorted by the two NY teams moving into smaller parks. But MLB AFAIK has not announced any overall revenue results, and it may be impolitic for them to do so in the middle of the hot stove season if those numbers don’t show at least a similar decline — and they may not, because despite the undoubted drop in demand for luxury boxes as corporations cut back (or, in some cases, cease to exist) MLB keeps finding new revenue streams like their TV network and Heck, they made over a million bucks from their iPhone app. So despite the woes of the larger economy, and the expectations of many, baseball as an industry at least in the short term still has plenty of money to throw around.

    But the larger point is this: we’re making all these arguments about cycles (ie feedback loops) and market decisions as if the market was mostly unconstrained, and it simply isn’t — it’s governed by the CBA, and that’s set to expire in December of 2011. The MLBPA is well aware of those new revenue streams, and they’re also oriented away from prospects and towards improving the lot of their current members — ie those “veterans” and “useful major league players” not the kids in the draft or in academies overseas. It’s impossible to know what the new CBA will look like — or the economic environment in the winter of 2011 that might influence it — but we know the MLBPA’s interests create a major bias towards continuing salary inflation, and that in turn gives the teams a good reason to continue to focus on those cheap young players not yet in the MLBPA.

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  8. Jeff V says:

    I wouldn’t use the stock market as an indicator of overall economic strength.

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  9. NEPP says:

    There’s a good chance the new CBA will have some type of Salary Cap and Salary Floor. There have been hints that the Owners want to go in that direction and a floor would eliminate teams like the Pirates and Marlins from simply pocketing their revenue sharing money every year.

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    • diderot says:

      There’s already a floor. It’s called the major league minimum.
      If you’re talking about a payroll floor, that doesn’t seem to have a snowball’s chance in hell unless the players also agree to a ceiling…which seems unlikely in the lifetime of anyone now alive.

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      • NEPP says:

        Not necessarily…if the owners were to give up a year or two of player control, they could probably get a salary cap/floor (not just the minimum x 25).

        Things the owners will want in the next CBA:

        1. Salary Cap (well, 29 of them anyway)

        2. Hard slotting system for the draft

        3. International Draft

        Things players will likely want

        1. Shorter Arbitration process (4-5 years of control instead of 6)

        2. Guarantee of more of the pie

        3. Higher league minimum.

        Rules like “you must spend X% above the revenue sharing” would go a long way towards creating more balance and improving the overall players’ salaries.

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    • joser says:

      Guys like Loria who put together the lowest possible payroll and then turn a profit on the revenue sharing money create an interesting dilemma for the other owners. On the one hand, that just seems so wrong in principle that it must stick in their craws — especially when they view it as their money that Loria is putting in his pocket. On the other hand, every dollar that the Marlins aren’t spending in free agency helps in a small way to hold down the price of players for everybody else, and for owners like the Wilpons in particular there’s very real value in having a team in their division that is making no genuine effort to spend the kind of money necessary to be competitive.

      But it’s possible that Loria was just doing that until he could get a stadium deal (and he was making every effort to not put a stadium deal together until the deadline passed for MLB to forgive its loans to him) so his tune might change in the future. But as a general loophole that other teams exploit, the conundrum remains. Of course the MLBPA would undoubtedly like to see those teams spend every transfer payment dollar on payroll, but I don’t know that the carrot of a payroll floor would be enough to induce them to accept a payroll cap. After all, the payroll floor would only benefit a comparative few of their members, whereas a cap would affect almost all of them at one point or another.

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      • Jason B says:

        The thing that should stick in Wilpon’s craw even moreso, is that Loria isn’t spending massive amounts on payroll and *still* is able to field a competitive team. When a team is spending 25-30 million, rather than 90-110 million, and getting similar results, I wouldn’t begrudge them that, I’d try to figure out what they’re doing right and what we’re doing wrong.

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      • joser says:

        It apparently stuck in Loria’s craw more than anyone’s. Because when Joe Giardia screwed up his plans by making the Marlins competitive despite an absurdly low payroll (winning NL Manager of the Year in the process), Loria fired him.

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  10. NEPP says:

    Also, a modification of the Type A/Type B system as its currently screwing some players (Juan Cruz, Valverde, etc) when it comes time to being “unrestricted”. That will certainly come into play and its likely something the owners will have to give up if they want a cap.

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  11. mowill says:

    The players should not worry about the deflation in wages and teams should act now because inflation is not that far off. The Treasury and the Fed have pumped at least 3 trilliion dollars into the system in the last fifteen months. When that money reaches the real economy inflation will ensue, it is unavoidable. The only question is when it will start 2010 or 2011.

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    • NEPP says:

      I would guess sooner rather than later. You can only prop up a house of cards for so long.

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    • acerimusdux says:

      Not really. The government spending isn’t really enough to cause inflation right now, they would have to succeed first in causing enough demand for there to be pricing power in markets. With unemployment near 10%, that certainly isn’t happening soon in labor markets.

      The only other thing that can cause inflation, is actually printing enough currency to cause some loss of faith in the currency. But they aren’t doing that either. Loans won’t do it, you need actual currency debasement. With about 2% growth needed to lower unemployment only an additional percent, you basically want 1% for population growth, another 2% for productivity, at least another 3% for reducing unemployment at a reasonable rate, plus another 3% for a reasonable long term inflation target. So I’d want a minimum of 9% currency growth for the next couple of years.

      Here is what the Fed is doing instead. They briefly got currency growth up to where it needs to be in response to the recession, but they are already cutting back sharply. With this Fed, we seem destined to instead have continued deflation and recession. They simply won’t allow inflation to reach a reasonable rate.

      See also comments from Bernanke here:

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      • mowill says:

        The Fed has expanded their balance sheet by at least 2 trillion and the Govt. has increased the deficit by 1 trillion. That 3 trillion combined equals about 22% of GDP. All in about fifteen months. Gold and other commodities are signalling inflation, the yield curve is signalling inflation. You must believe, like most new school economists, that inflation can only come from wage growth. Well I would say that thesis has just about been debunked even though Keynsian and Lassiaz-Faire economists continue to cling to it. Inflation comes from devalution of currency (happening) and real growth in commodities and energy prices (also happening).

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      • acerimusdux says:

        Well no, the Fed’s total balance sheet is just at about $2.2 trillion, which represents an increase of under $1.5 trillion. But that hasn’t come through much currency expansion. It has come mostly through increased reserve balances. The increase in assets, primarily treasury guaranteed securities (representing about 85% of those assets currently) has been offset by an increase in deposits from depository institutions of over $1 trillion since the crisis started.

        At the height of the crisis, the Fed also dramatically increased lending by over $1 trillion, but those loans have nearly all been repaid. Over the last year, over $1 trillion of loans has been paid back to the Fed, so that is over $1 trillion in liquidity being withdrawn over the last year.

        As for federal spending, if it were being financed though additional currency, you wouldn’t see it increasing the debt. The $2 trillion increase in the public debt just since last September is an indication that monetary policy is tight, there is no accommodation. And indeed, tax increases are already scheduled to go into effect in another year. I see no evidence this is being monetized.

        In short, there is really nothing much inflationary there. Unless you see significant expansion of currency, there isn’t going to be any substantial risk of monetary inflation. Now, some increase in inflation would be expected in recovery, but we are currently in a negative inflation environment (globally). Some increase is needed. Likewise, a steepening yield curve would be normal at the beginning of recovery, as would some recovery in energy prices (with crude oil for example still down over 40% from it’s highs just over a year ago).

        And this much is conventional mainstream economics, not any “new school”. The most recent survey of professional forecasters for example projects both CPI and PCE inflation under 2%. through 2013. If you are doing something differently, than you are the one doing something out of the ordinary. That doesn’t make it wrong, but in need of better explanation than you’ve given.

        As for what inflation includes, it includes primarily wage increases almost by definition in the way the Fed uses the term. Capital assets and other long term assets are mostly excluded from the calculation. And then, for purposes of monetary policy, they generally focus on “core” measures which also exclude energy and food, the two largest commodity areas of interest to most consumers. Exclude capital and a significant chuck of commodities, and you are left mostly with labor. As a result, the Fed’s war on inflation in my view is largely a war on wages. I believe we need to increase these measures of inflation to reasonable levels partly because we need the economy to again provide wage increases.

        You can disagree philosophically with this commonly understood definition of inflation if you like, but since we were discussing wages here, it does seem to be the most appropriate measure for this discussion. As for gold, I do expect that to continue to appreciate for a time, precisely because inflation is too low. In a robust recovery, speculators would not want to hold too much gold precisely because it is not inflation protected. In a strong recovery, you would do better making capital investments in the future production of goods, which are more inflation protected.

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      • JJ says:

        How do you consider the Fed buying Treasuries and Agencies and setting the Fed Funds rate below .25bps, as well as paying like rates for deposits to be “tight” policy. They are intending, and outwardly forthright, with their accomodativeness. The “unprecendented” actions are the opposite of tight policy.

        You are right that there is a big disconnect between the measured definition of CPI and what some believe the real definition of CPI is. The calculation of CPI is udderly ridiculous in the adjustments that are made to keep the number stable, so one should not expect to see CPI jump in the near term even if commodity prices are increasing rapidly. In my eyes this is an apples and oranges debate as it relates to inflation.

        Citing what mainstream economists are predicting isn’t really worth a whole lot. The Bloomberg consensus survey of ~75 economist on September 10, 2008 (days before LEH failure) had the median recession odds at 51% (as we were already 10 months into the recession).

        Continuing to listen to the people who put us in this situation (Fed) and the people that didn’t see the problem coming (mainstream economists) isn’t my suggestive course of action. May I suggest reading up on Austrian Economics for an alternative perspective. I would begin here

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  12. acerimusdux says:

    So I guess this means the Mets are ahead of the curve! :)

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  13. NBarnes says:

    “If we don’t see a real up-tick in spending next winter, expect [b]a collusion lawsuit by the MLBPA, that they will win. Again.[/b]

    Fixed that for you.

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