All Commentary
Tuesday, July 1, 2008

On Baseball and Capital Markets

Games Can Be Instructive

Donald F. Grunewald is an attorney.

Baseball is a game of rules. These rules are not excessively complex for the simple reason that overregulation and overspecification would hamper the enjoyment of the game. How so?

Consider the placement of the defensive players. Other than the pitcher and catcher, who must stand at particular locations while a pitch is delivered, the other seven players need only stand in fair territory out of reach of the batter. The seven players could stand in a straight line in dead center field. They could form a circle and hold hands behind the pitcher’s mound. They could lie down, kneel, sit, turn backwards, or even jump around in a circle. The rules dictate no precise location.

Fans know that players do play positions. Furthermore, these players tend to stand in similar locations across all the major league teams and games. The reason is clear. Since team owners, managers, and players want to win games, defensive positions are set to maximize the chance of getting outs. The experience of many recorded games as well as the natural contours of the field suggest optimal positioning. That is why in baseball—from Little League all the way up to the majors, from New England to Florida, California, Latin America, and Japan—someone called a shortstop plays in the infield between second base and the third baseman.

It is important to note that while an equilibrium has been created for normal situations, managers have responded to extraordinary events by shifting their defensive spreads. Sometimes the alignments can be very unusual. Take Jason Giambi of the New York Yankees. Analysis of flow charts of balls hit by left-batting Giambi over his career show that he has a decided tendency to hit almost all his ground balls to the right side of the infield. In a normal defensive formation these grounders often result in hits, as the balls enter the gap between the first and second basemen and roll into the outfield. To prevent this, most teams move the shortstop near to where the second baseman normally plays, allowing the second baseman to stand in shallow right field to fill the gap. The third baseman must defend the entire left side of the infield.

Consider another situation. It’s the bottom of the ninth inning and the teams are tied with none out and a runner on third. Normally a team places its three outfielders equidistantly on the outfield grass. Yet in this situation, many teams might drop to two outfielders who will play shallow and move the third into the infield. This is because a shot deep to the outfield will result in a run even if caught because the runner on third will tag up. So it’s far more important to make sure no ground ball gets through the infield and that an infielder can quickly get to any ground ball and throw the runner on third out at home if necessary.

These nonstandard formations occur because in these extraordinary circumstances the old equilibriums no longer are the most efficient means of getting outs. Like the market responding to changing conditions, managers create new types of out-producing efficiencies to match the situation. For the social theorist and the law giver this is an important process to take note of. The rule maker in baseball presumably wishes to design the rules to make the game as interesting to fans as possible. This is because he wants to make fans happy, wants to earn profits, or wants prestige, all of which hinge on how interesting the game is. Baseball is more interesting when teams try harder to win, the score is close, and the players can demonstrate the maximum level of skill. Thus the baseball rule maker should want to encourage a system in which a defense can position itself to get the most outs. He must resist the temptation to overregulate.

Although baseball’s rules evolved, someone later might have specified exactly where each player stands. At first glance this might seem to be a good idea because the rule maker could methodically study the game and direct all players to stand where they should be able to optimize their chances of victory. Yet such rules would neglect the unforeseeable extraordinary circumstances in which the usual equilibrium no longer is appropriate. The rule maker might then seek to regulate even more, adding exceptions to the shortstop placement rule, such as, “Except if Jason Giambi is batting with no men on base, then the shortstop shall stand at X location.” The rules would become so incredibly complex that people would lose interest in the game. Imagine trying to explain it all to 7-year-old Little Leaguers.

It would be impossible to incorporate all the relevant information into a set of specific alignments. Consider our runner on third in the bottom of the ninth. In setting up the defense, a manager incorporates information such as how fast the runner is, whether he is injured, how strong the outfielders’ throwing arms are, how good the catcher is at guarding home plate, what kind of batter is at the plate, whether the pitcher normally gets outs through strikeouts, grounders, or fly balls, whether the game is being played on artificial turf or grass, whether it is indoors or outdoors, whether it is day or night, whether the field is wet, and how cold it is. It simply would be impossible to craft a rule a priori that would optimize the defense. It is far better to give discretion to the managers of teams to set their defenses using the information they have right at the moment events are about to happen.

Rule Makers and Government Policy

The temptations that may afflict the baseball rule maker will also arise for governments that try to produce stable and efficient markets, economies, and societies. Consider an impartial and benevolent Leviathan empowered to regulate the capital markets. Presumably Leviathan would want to create a set of rules that would encourage the following outcomes: 1) business access to capital so that the economy can grow most efficiently and investors can get rich, 2) growth that is tempered so as to avoid wild swings or shocks, and 3) an absence of fraud. Leviathan may believe there is some optimal range of transactions that will maximize these goals. To ensure that this comes about, it might be tempted to make certain rules. Yet as we saw with defensive placements in baseball, this will make the market inefficient because of the sheer complexity of the rules that would result and because Leviathan simply cannot know everything that could possibly happen in the markets. If the ruler did know, he probably should stop making rules and invest full time.

Baseball teaches us a lot about rule making and market regulation. The game needs rules because otherwise it would cease to make sense. Few people would go to a stadium and pay money to watch people stand on a field and attempt to improvise a new game on the fly every day. Without balls, strikes, outs, hits, walks, and runs, baseball becomes pointless. Once basic rules are in place, however, we find that the participants tend to create the most interesting and efficient outcomes when no rules specifically guide or force them to act in particular ways. In fact, it is the absence of such rules that allows individuals to use their talents to best effect.

In the same way, we could not have a capital market without an evolved legal framework concerning property, contracts, fraud, currency, and so on. Yet the legal authority should not try to determine what people can and cannot invest in or what kind of financial instruments are appropriate. Baseball may only be a game, but games can be instructive all the same.