BETTING ON YOUR OWN TEAM, IN THE WORLD OF BASEBALL AND THE CORPORATE WORLD:
Is Pete Rose Really as Evil as Ken Lay?

By GEOFFREY RAPP

Monday, Dec. 16, 2002

Earlier this week, Major League Baseball announced it was considering lifting its lifetime ban on Pete Rose, the former Cincinnati Reds MVP slugger and, later, coach who was accused of betting on his own team.

Lifting the ban is absolutely the right decision, particularly when Rose's behavior is viewed in the context of America's ongoing corporate infidelities. In the corporate world, betting on one's own team is the norm. Unlike betting against yourself (which might create an incentive to throw a game so you win your bet), the practice is not likely to create perverse incentives.

Accordingly, while Rose may have broken the rules, his trespass should be forgiven, and Rose, who has already been punished (and embarrassed) enough, should be allowed back into professional baseball. Moreover, as I will argue below, it is far from clear that Rose even broke the rules in the first place.

Rose's Stellar Record - and the Allegations That Marred It

Unfortunately, that hit-while historically significant-is by no means the most memorable moment in Charlie Hustle's career. Rather, that moment is without a doubt August 23, 1989, when then-Commissioner Bart Giamatti imposed a lifetime ban on Rose, for allegedly betting on the Cincinnati Reds while he was serving as the team's manager.

The substantive charges against Rose have, unfortunately, never been litigated. A procedural challenge went as far as the U.S. Court of Appeals for the Sixth Circuit, but the litigation ended as a result of the August 23 agreement with Giamatti, under which Rose accepted the lifetime ban.

This is really too bad, since I suspect (and will argue here) that Rose would have won. To this day, Rose has never admitted to gambling on baseball. And even if he did, the facts do seem clear on at least one point: Rose bet on his own team, but only did so to win (this was the conclusion of the famous "Dowd Report" on the Rose case). And arguably, there is nothing wrong with that at all.

Why Corporate Law Encourages Betting on Your Own Team

By comparison, American (or rather, Delaware) corporate law not only allows, but rather encourages, corporate directors and officers to do exactly what Rose is accused of doing. Corporate directors and officers are often forced to purchase stock in their own companies, and even more often are paid in options the value of which depends on increases in the stock price.

The economic explanation for these policies is straightforward: Tying a director's or officer's compensation to increases in the stock price gives him or her a strong incentive to focus on the bottom line: shareholder value. Without such incentives, leaders can be tempted to build big offices, fancy Lear jets, and large staffs purely for the purposes of self-aggrandizement and individual power - serving their own interests rather than those of the corporation.

Should Even More Betting on One's Team Be Encouraged in the Corporate World?

Indeed, a near consensus exists among corporate scholars (led by the late Henry Manne) that, in the corporate world, even more "betting on your own team" than is currently allowed would be a good idea. That is why some scholars, for instance, support liberalizing the insider-trading laws. But even if you support strong bans on insider trading, you can also support aligning management's incentives with those of the corporation as much as possible.

One of the infrequently discussed reasons for the bursting of the dot.com bubble is that there was simply not enough betting on one's own team happening. Well-funded start-ups, supported by shortsighted venture capitalists (VCs), spent other people's money with abandon. What did they care? It wasn't their money. And the upside for them wasn't as great as it might have been - with limits on options' vesting and their amount.

Enron (and Tyco and WorldCom and GlobalCrossing and Kmart) have given option payments a bum rap. From a law and economics perspective, this rap is largely undeserved.

Granted, there is something unseemly about directors and officers pocketing massive payments while ordinary employees and outside investors see their portfolios disappear. But options themselves weren't really the cause of the problem at these companies; the problem was that the options may have overincentivized short-term profits, as I will discuss further below.

Would Allowing Betting on One's Own Team Work For Baseball, Too?

Moreover, in baseball, this unseemliness shouldn't be a problem. Baseball managers are (arguably) not only underpaid but also mistreated.

As any fan knows, good managing-more than any other factor save a top-notch pitching staff-determines who wins and who loses playoff games. (This is particularly true in the Senior Circuit, where the absence of a DH makes batting-order decisions vital in the late innings of a game). Meanwhile, the way first-rate managers who are blamed for their team's woes is treated is awful (exhibit A: Dusty Baker, who ably led the San Francisco Giants to the Fall Classic but lacks a long-term contract). Managers don't get enough credit in good times, whereas in bad times, they get too much of the blame.

In principle, there is little reason why allowing a manager (or a player, for that matter) to bet on his own team to win wouldn't induce the same positive incentive effects as do corporate governance mechanisms. Accepting options, as opposed to compensation, is just another way of betting on one's own team, after all: Only if the corporations do well, are the options a good deal for the corporate managers.

If Rose really did bet on the Reds, he should have had an even greater incentive to see his team win. And that type of incentive is what fans, and baseball, should really be concerned about. Allowing managers to bet on their own teams would also remedy the unfairness of how they are treated, at least to some extent: Even if the managers didn't receive enough credit for wins, they would at least share in them financially.

The Burdens of History: Reacting to the "Black Sox" Scandal

Baseball's historical zero-tolerance policy towards gambling is understandable, if wrong-headed. The 1919 "Black Sox" scandal, of course, provided the historical impetus for the policy.

(The scandal also provided fodder for Hollywood and for literature - it was immortalized in Eight Men Out, as well as Field of Dreams, while the gambler was the basis for the character of Gatsby in The Great Gatsby.)

But today, baseball is once again America's pastime, and there is no risk that gambling scandals would damage the prestige of the game - as long as they are not scandals in which the bettor bets against his own team, and/or throws the game.

Baseball currently enjoys a strong public image, thanks to the swift bats of Barry Bonds, Mark McGwire, and Sammy Sosa; the deft fielding of Derek Jeter and Miguel Tejada; and the steely resolve of Curt Schilling, Roger Clemens and Randy Johnson. Thus, MLB doesn't need draconian measures any more.

Baseball doesn't have a zero tolerance policy towards alleged drug -and particularly steroid - use (consider, for example, McGuire). Baseball doesn't have a zero tolerance policy towards alleged wife-beaters and sexual harassers (consider, for example, David Justice and Kirby Puckett). Nor does baseball have a zero tolerance policy towards nutcases who decide to freeze their remains (such as Ted Williams).

These types of conduct are all far more damaging to the prestige and sanctity of the game than betting on your own team.

What was Really Wrong With Rose's Bets

Rose still deserves some blame, if he did indeed gamble. What he did allegedly was against the rules at the time when it was done, and that should count for something - even if the rule itself was wrongheaded.

And there is some rationale, at least, to prohibit a manager from betting on his own team The problem is that, while it makes the incentive to win stronger, it also induces short-run distortions that could be damaging to a team's long-run prospects. The particular game the manager chooses to bet on may seem more important to him than others, but to the team, it actually may not be.

Similar problems plague the use of options in the corporate context . Judge Frank Easterbrook of the U.S. Court of Appeals for the Seventh Circuit has persuasively argued that options create a sort of lottery. In the "lottery," corporate directors and officers earn little reward from steady, long-run growth, but a lot of reward from quick upswings in stock price. (This is consistent with the Black-Scholes formula, which predicts high prices for options in more volatile markets).

If Rose really did bet on the Reds, the problem is that he might have been tempted to, say, shuffle his pitching rotation to maximize his chance of winning games on which he had bet. This could tire his pitchers' arms and cost the team in the long run.

But baseball should have had to prove not simply that Rose bet, but that he manipulated the line-up card in order to beat the odds. I doubt he did.

I think it's time to plant Rose in Cooperstown, and forgive him for what was not, in the end, such a major transgression after all.


Geoffrey Rapp is an Associate at Miner Barnhill & Galland in Chicago, IL. He was an Adjunct Professor of Sports and the Law at Wayne State University in the spring of 2002. He can be reached at rapp@post.harvard.edu.

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