Luxury tax penalties aren’t worth cutting costs for the Yankees

The big question for the Yankees this offseason is whether or not the team will spend beyond the 2019 competitive balance tax limit of $206 million. Every other question - whether Bryce Harper or Manny Machado becomes a Yankee, if there’s a real desire to take on a big contract in a trade if it means landing a true ace - becomes moot if the team is determined to remain under the CBT threshold next season.

Some people - Brian Cashman and Hal Steinbrenner included - have sung the praises of staying below the CBT “cap”, because the team doesn’t want to be “lining the pockets” of the rest of the league. They seem to be under the assumption that tax penalties are part of revenue sharing - they’re not - and that the penalties themselves can cripple an organization’s flexibility and earning potential - they can’t, at least not for the Yankees.

These were the Opening Day payrolls for all 30 MLB teams in 2018, from the incomparable Cot’s Contracts. Two teams ended up paying penalties for going over last season’s CBT limit of $197 million the Red Sox and Giants. The Dodgers got creative with their accounting, as they often do, over the season to just barely avoid the penalty. NBC Sports yesterday detailed the actual penalty for the Red Sox, who were more than $30 million over the threshold and assigned the harshest penalties of any team in the league.

The Red Sox will pay $12 million, and because they were so far above the CBT limit, will also see their first draft slot pushed back 10 positions. Instead of their first pick being the 33rd overall, it’s now the 43rd overall. In terms of dollar penalty, the Red Sox will essentially be paying one 2018 Brett Gardner, hardly the kind of financial strain that can break a large market, high-value team.

The draft penalty also doesn’t seem as bad as you’d think. At first glance, 10 draft slots seems like a lot! The thing is, if you’re drafting outside of the top-10 in the draft, the anticipated value of each pick drops off pretty quickly. Baseball Prospectus runs an incredibly useful Draft Value Calculator, and the difference in value between a 33rd overall and 43rd overall pick is about $3,000,000 over the six years of MLB control teams get.

So, the Red Sox blew past the threshold, and it cost them the contract of a one-to-one and a half win player, and approximately $3 million in prospect value. In exchange, they were able to land the best free agent pickup of the 2018 class and absorb the costs of Hanley Ramirez and Pablo Sandoval. The dead money the Red Sox assumed was really what pushed them past the tax limit, but it opened up roster spots that, if HanRam were still on the team, might not have gone to players like Nathan Eovaldi.

These penalties become even less burdensome when you factor in the very real link between spending and wins. The winning percentage and Opening Day payrolls of 2018 had a correlation coefficient of .38. That indicates a positive correlation, although not particularly strong. As payrolls rise, generally, so will winning percentage.

Over multiple seasons, though, that correlation gets stronger:

Over a three-year sample, the correlation coefficient between higher spending and more wins is .45, strengthening as our sample size does. This is largely how we eliminate noise and over-performance. Given that, it’s safe to assume that as you increase the sample size of games played, more money being spent leads to more wins.

That’s before even considering the value of playoff appearances and deep runs, which have been estimated to add a 10-20% into single season revenue and obviously increase the value of a franchise itself. The added revenue from the Red Sox World Series likely far outweighs the cost of the CBT penalties.

All this is to say is that the fear over the competitive balance tax is overblown. The benefits of signing great players, or eating contracts holding back the team, and the resulting financial reward for good performance, is greater than the cost of a Brett Gardner-sized penalty.

This isn’t making a case to spend wildly on every player. It’s simply a recognition that the CBT shouldn’t hold a team back when players like Manny Machado and Bryce Harper are available. If a team offers those two a billion dollars over 50 years or something wildly over market like that, sure, the Yankees probably shouldn’t get into that bidding war. But if the front office is playing coy because of the fear of a $220 million payroll, they’re just not being realistic about the costs.