The following chapters are excerpted from "Baseball Between the Numbers: Why Everything You Know About the Game is Wrong." Copyright (c) 2006 by Baseball Prospectus. Excerpted by permission of Basic Books, a member of the Perseus Books Group. All rights reserved. No part of this excerpt may be reproduced or reprinted without permission in writing from the publisher.

From chapter 6-3: Does Baseball Need a Salary Cap?
by Neil deMause

Perhaps no two words in baseball generate as much controversy and emotion as "salary cap." Depending on whom you ask, a salary cap would either save the game, destroy the players' union, provide hope for small-market fans, pervert the free market, or create a tangle of red tape that would turn every trade deadline into a battle of wits among dueling "capologists." Whenever owners and players have to negotiate a new collective bargaining agreement -- the next tussle is scheduled for after the 2006 season -- discussion of a cap is sure to follow. Mere mention of the c-word usually throws a giant wrench into labor talks and raises fans' fears of another 1994.

The concept of a cap sounds simple enough. Every team, whether the Yankees or the Devil Rays, is given an annual salary budget, and no team is allowed to exceed it. But as actually practiced by pro sports leagues, salary caps come in a million flavors: hard caps and soft caps, franchise-player exemptions, and luxury taxes. Each tweak to the system runs headlong into the economics of unintended consequences. But before we can determine whether a salary cap would fix baseball, we have to decide just what it is about baseball that we want to fix. Taxes and caps have been suggested to cure various ills, including payroll inflation, high ticket prices, and competitive imbalance.

As economists like to point out, if you want less of something, you should put a tax on it -- and player salaries are no exception. Reduce the ability of the richest teams to bid up the price of players and salaries are sure to fall.

How this plays out depends on the type of tax in place. A salary cap -- which should more properly be called a "payroll cap," since it says nothing about individual player salaries, only overall team payrolls -- is the simplest to envision. Once teams have reached the magic payroll number, they are forbidden to spend more. This reduces salaries in two ways: Teams over the cap are taken out of the bidding for free agents (or for pricey trade targets), giving available players fewer options and reducing bidding pressure, and teams just below the cap will resist blowing their budget on a single player. This is precisely why the players' union has always fought bitterly and successfully against a hard cap.

Baseball has two modified cap-type mechanisms: the luxury tax and revenue sharing.

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The luxury tax, instituted in the 2002 collective bargaining agreement after a brief trial run in the late 1990s, is essentially a soft cap. Teams can bust their league-appointed budget, but at the cost of being taxed -- "fined" might be a better word -- for the excess amount. The tax starts at 22.5 percent and increases for repeat offenders. As a three-time recidivist, the Yankees paid a 40 percent tax on their excess spending in 2005. It's easy to see how a 40 percent tax would be a drag on spending. Coughing up $20 million a year for a superstar player is one thing, but adding another $8 million in payments to the league could make the deal untenable. Imagine how you would react if you had to pay a 40 percent surcharge for every gallon of gas you bought over the first ten. Filling up would become a thing of the past.

The main reason the luxury tax hasn't led to a crash in player salaries is that it very rarely comes into play. The tax threshold started at $117 million in 2003, rising in steps to $136.5 million in 2006. In its first three years, it was paid only six times, half of those by the Yankees. This is why the players' union didn't consider it worth striking over: While putting the reins on George Steinbrenner's checkbook may have been distasteful, it left the rest of the league free from constraints, and perhaps, with the Yankees brought down to earth a bit, more willing to spend. If the owners' original proposal -- a 50 percent tax on all spending over $84 million per team -- had been enacted, it would have hit ten teams in 2005 and sent shock waves through baseball's salary structure.

Baseball's other main income-redistribution scheme is revenue sharing, which has existed in one form or another for decades (counting such ancient innovations as giving a portion of ticket receipts to the visiting team). In this general form, revenue sharing is a less obvious means of keeping down salaries, but it's a means toward that end nonetheless. To see why, think about players as cost-conscious owners do -- not as heroes to cheer from the grandstand but as business investments.

If you're Texas Rangers owner Tom Hicks in the winter of 1999-2000, and you're deciding whether to sign Alex Rodriguez to a record $25-million-a-year contract, certainly you're going to look at A-Rod's stats: just twenty-four years old with 189 home runs and a batting title under his belt. But when figuring out how much to pay him, you'll also consider his value: How many more tickets will he sell; how much will he increase advertising revenue on your team's broadcasts; how many more souvenir jerseys will fans buy; how much will he increase the value of the franchise? If the answer isn't "more than $25 million a year," then paying A-Rod that much would be foolish -- unless you're willing to lose money in pursuit of a World Series ring. Add in revenue sharing and the picture changes greatly. The current system is complicated, but it can be summed up in a simple rule: Every team in the league, rich or poor, gets to keep about 60 cents on every new dollar it earns. For high-revenue teams, this percentage comes from having to write bigger checks to the league the more money they make; for the low-revenue ones, it's in receiving smaller checks from the league as revenue increases.

It's easy to see, then, why the players' union has fought bitterly against revenue sharing, considering it a thinly disguised way to transfer money from players to owners. It's also easy to see why owners love it, Steinbrenner notwithstanding.

Arguments about salary caps and revenue sharing always come down to competitive balance. When owners were pushing a cap in the runup to the 2002 labor wars, they made sure to sell it as a means to restore, in Bud Selig's famous words, the fans' "hope and faith" that their team could have a shot at a pennant. "Perhaps 12 of 30 Major League teams have any possibility of reaching postseason play, and fewer still have a realistic hope of winning a pennant," Padres owner John Moores wrote in the Wall Street Journal shortly after his team had, ironically, reached the World Series. "Unless baseball changes the way it does business, it risks seeing its fans drift away, tired of their teams' futility."

Of course, in any given year, most teams won't come close to making the playoffs. A more significant measure is whether poor revenue potential is locking teams out of pennant races for years at a time. The numbers here are less clear: Since the expanded playoffs began in 1995, twenty-two of the thirty big league teams have reached the postseason at least once; two of the remaining eight, the Phillies and Blue Jays, had just met in the final World Series under the old setup. Compare that to baseball's "golden age," when the Phillies once went thirty years without finishing higher than fourth while teams like the St. Louis Browns and Washington Senators rarely even sniffed a pennant race.

That said, the Yankees are one of two teams never to have missed the postseason under the current system (the Braves are the other). If we chart postseason appearances against average team revenue, we find that a little more than half of getting to the postseason is determined by team revenue.

But there's a problem here. High revenue may help lead to the postseason, but postseason appearances increase revenue as well. Not only are playoff tickets a lucrative item, but a winning team typically sees regular-season sales soar. To avoid this dilemma, we can compare postseason appearances not with revenue but with TV market size. Beyond the obvious -- you really don't want to play in the tiniest markets, or in Canada -- the correlation between market size and playoff appearances is extremely weak. What explains the Cardinals' or the Indians' success, or the Phillies' lack of it? Market size accounts for 11 percent of the cause -- meaning anyone who's tempted to place bets on division winners based solely on TV market size is kidding himself.