Transfer Fee Regulations and Player Development

This paper studies the role of transfer fees in professional sports, where players can commit to binding long-term contracts. They cannot switch clubs before their contract expires unless the old club agrees to let them go; transfer fee is the price of that agreement. Transfer fees have been defended as a necessary incentive for clubs to invest into training their young players. The apparent absence of signi cant training costs (compared to the level of transfer fees) has undermined this defense. We present a model without training where an industry of clubs with heterogeneous marginal revenue products for player ability and a population of players with various levels of talent and experience match. Transfer fees are needed to ef ciently allocate scarce playing opportunities among players of different levels of known and potential ability. We show that total surplus is lower without transfer fees because playing time gets reallocated towards older players with less upside potential. The resulting increase in player salaries exceeds the transfer fee costs for each level of ability. (J31, J41, K12, L83) Acknowledgements: This paper grew out of chapter 3 of my PhD Thesis (MIT, 2003). I am grateful for useful comments by David Autor, Abhijit Banerjee, Matthew Gentzkow, Bengt Holmström, Michael Katz, David I Levine, Hideo Owan, and seminar participants at Haas, Olin, and ESEM-Madrid. I thank the Yrjö Jahnsson Foundation for nancial support.