Lessons from the AFL’s failed regulations

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The Australian Football League (AFL) is looking at claims of ‘tanking’ – again. See here. In brief, the AFL used to give a priority draft pick to a team that  won four or fewer games. So if, at round 16 (out of 22), a team was sitting on, say, 3 wins, and could not make the finals, it had a big incentive to make sure it won no more than 4 games overall (maximum of one more win for the season).

The AFL’s failed regulatory scheme (because that is what it was!) provides two broader lessons for regulators:

  1. Incentives matter; and
  2. Don’t write regulatory rules that are unenforceable.

It shouldn’t surprise anyone that incentives matter. But the incentive implications of regulations are sometimes ignored. Create incentives for football teams to lose games and they will lose games. Create incentives for electricity network owners to ‘cherry pick’ regulator’s decisions and they will do so (hence the current review of the appeals process for the Australian Energy Regulator’s decisions). Create incentives for a vertically integrated telephone company to undermine its rivals through the access regime and that is what will happen. Pretty obvious. But the last 20 years of Australian telecommunications regulation shows that the ‘pretty obvious’ incentive effects may be ignored when markets are restructured.

The second lesson is more subtle. Those who write regulations often ignore the difficulty of separating ‘legitimate’ and ‘illegitimate’ activities. ‘Tanking’ is deliberately losing a game or games to manipulate the draft system. It is bad and should be stopped. But rotating players, trying players in new positions, giving young players more game time, resting players with ‘niggling injuries’ and so on, are all legitimate coaching decisions for a struggling team. The fact that they all raise the probability that a team will lose …..

Much utility regulation is based around giving a ‘fair level of profit’ to the regulated firm. But this is immeasurable. Similarly, access regulation is based on the ‘efficient’ access price. Again, immeasurable. Many of the regulatory debates are a waste of time as people argue about how to best measure something that they cannot measure. For example:

  • Which version of CAPM should be used to determine the ‘appropriate’ return on equity or should a different model be used?
  • What is the appropriate minimum retail price that a vertically integrated firm can charge given the access price (so-called imputation rules)?

A better regulatory outcome is to set a clear set of rules around things that can be measured cleanly and that will not create perverse incentives. And by the way, one set of perverse incentives is created by having ‘reviews’ that continually fiddle with the regulatory rules.

 

8 Responses to "Lessons from the AFL’s failed regulations"
  1. Can you post a paper that outlines what the simple measurable rules would be? Fair enough point that the regulations get gamed, but what does the next best regulation look like? Is it better all things considered…

  2. As a further example, take a look at the badminton players who were just DQ’d from the olympics for tanking.

  3. Stephen,
    What are your views on the rate-making processes followed in a number of US states? Specifically, it seems that although they also pursue the measurement of the immeasurable, their process at least reflects that aim. Each of the political, business, and consumer interests at stake, are openly represented. These interests are often at odds, but by recognising this do they come closer to the immeasurable?

  4. CraigM – it is not clear that the US gets to a particularly different outcome to Australia in practice. The key difference is the explicit consumer representation. At the ACCC regulatory conference last week it was suggested that the regulator should ‘represent’ the consumer interest. This is silly as it would mean the regulator would have to wear a ‘consumer interest’ hat and an ‘independent regulator’ hat. Our regulators are just not that schizophrenic!

  5. Create incentives for players to dive in head first to get a free kick and they will eventually break their neck. Just wait for it. It will happen. And it will be the fault of the odious Andrew Demetriou.

  6. But the problem you are concerned with Stephen is measuring the immeasurable. So consider if the outcomes are the same as Australia in practice. With rate-making cases it is absolutely clear that each ‘measure’ comes from a particular perspective. This might at least play down any pretense that some exactly true measure exists. I suspect it also places clearly in a space the balance that must be struck. (Although I am not too sure how the cases are perceived by end users).

  7. Stephen lesson number 1 should be “is there a case for regulation?” Is there a market failure? The AFL is nice in having a somewhat equal competition, but the EPL and NFL in the US are nice as well. They don’t have these regulations. And of course it is the players who pay for these regulations.

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