Wage inequality and firm performance: Professional basketball's natural experiment

Abstract

The purpose of this inquiry is to utilize a natural experiment from professional basketball to examine how wage inequality impacts the productivity of the firm. The A Natural Experiment from Professional BasketballAn issue highlighted in the National Basketball Association's (NBA) 1998-99 labor strife was the disappearance of the league's middle class. While a few athletes had garnered the attention of the media for contracts in excess of 100 million dollars, a larger number of veteran players were playing at the minimum wage, albeit NBA style. 1 The changes in salary equity were primarily a result of the 1995 collective bargaining agreement (CBA). 2 Not only did this agreement increase the team payroll cap by 45 percent, it also eliminated the institution of restricted free agency. Hence, all players without a contract at the conclusion of the 1995-96 season were free to negotiate and sign with any team in the NBA. As a result, several organizations began the summer of 1996 with relatively empty rosters and significant amounts of money to spend on the acquisition of talent. The path taken by many of these teams was to devote a substantial amount of team payroll to a few star players. The remainder of the roster was then filled with players only offered the NBA minimum wage. 3Although the salad" trends observed in the 1990s were clearly not welcomed by a significant portion of the athletes employed by the N~A, such rapid changes in the distribution of salaries represent a natural experiment for economists wishing to understand how changes in pay inequality impact worker performance. Given that basketball is a team sport where cooperation among workers would appear critical for team success, how do increases in wage disparity impact firm performance. 7

Mixing the princes and the paupers: Pay and performance in the National Basketball Association

“…For this purpose, we need a conditional measure of pay inequality that controls for the quality of a worker's 1 In an interesting variation on this literature, Katayama and Nuch (forthcoming) model the impact of salary dispersion on team performance in the NBA at game level. They find, in line with Berri and Jewell (2004), no effect of within-team pay disparity on team performance, using estimation methods similar to this paper. teammates (Winter-Ebmer and Zweimüller, 1999;Lallemand et al, 2004).…”

The impact of managerial quality on organizational performance: evidence from German soccer

“…A substantial empirical literature has established a positive correlation between spending on team payrolls and team performances in European soccer and major North American sports (Szymanski and Smith, 1997;Szymanski and Kuypers, 1999;Szymanski, 2000;Hall et al, 2002;Berri and Jewell, 2004;Simmons and Forrest, 2004;Kahane, 2005). The motivation for this relationship is that player quality is easily observed and players are easily traded, at least in European soccer.…”

Pay Dispersion

“…The authors concluded that franchise owners may increase dispersion by acquiring high-salaried star players in order to sell season tickets, premium seating, and luxury boxes, perhaps at the expense of winning percentage. Berri & Jewell (2004) and Katayama & Nuch (2011) examined pay dispersion through performance relationships among teams in the US National Basketball Association (NBA). Both studies found that the relationship between inequality measures and team performance was negative, but not significantly so.…”