The House Always Wins: Effects of the Strict Regulatory Environment for Casinos
American casino gaming revenues totaled over 70 billion in 2017 and continue to grow. The estimated $2.8 trillion that was wagered in US Casinos represents nearly 15% of US GDP, suggesting that nearly one in every six GDP dollars passed through a casino in 2017. However the regulatory environment for casino gaming is particularly harsh, muting many of the free market effects of competition. In this post, I use a case study of the opening of MGM National Harbor to discuss the mechanisms for competition between casinos and how the gaming market differs from more standard markets.
The first way casinos differ from average market is that their pricing is indirect. While a grocery store might charge a price for a gallon of milk, the casino’s “price” is felt in the unfairness of its odds, resulting in profit, or ‘vigorish’. The casino’s ‘vigorish’ or ‘vig’ is defined as the casino’s expected profit, expressed as a percentage of the player’s origination. Consider American Roulette, in which there are two zeroes and thirty-six non-zero numbers (eighteen red and eighteen black). If you bet one dollar on red, the chance of winning one dollar is 18/38 and the chancing of losing your dollar is 20/38. The player’s expected value, or the possible outcomes multiplied by their probability, is -5.3%, and the vigorish for the casino is +5.3%. Over a thousand hands betting a dollar each time, the casino would expect to make a profit of $53. In a competitive market, excess profits attract entrants would into the casino market, and we may expect casinos (firms) to lower their vig (prices) in order to compete. However strict licensing limits the quantity and allow casino’s to hold up their vig above competitive levels.
The gaming market differs from many markets in how tightly it is regulated. To examine the effects of the regulatory environment and mechanisms for competition, we will examine the state of gambling in Maryland. Commercial casino gaming in Maryland was first approved in 2008 when Maryland voters passed a constitutional amendment allowing five casinos to operate in the state. The market further expanded when a sixth commercial casino site was allowed a license in 2012. In Maryland and across the United States, there are strict controls that pose a high barrier to entry for potential competitors. Maryland not only controls the number of casinos, but the six commercial casinos can house no more than a combined 16,500 gaming machines and specific limits are also in place for the individual casinos. While a new entrant would ordinarily lead to competitors to lower their prices, there is no evidence that this has happened in Maryland. This could be in part because there is no further threat for more entrants, a result of the strict quota for casino licenses. The lack of competitive response could also result from indirect pricing (the vig). Indirect pricing likely creates a delay for consumers to learn about improved gambling odds that is not sufficient to amply reward casinos for improving their odds (lowering their prices).
As a result of the entrance of MGM National Harbor, many other Maryland casinos have suffered. While MGM National Harbor in its first full year of operations posted total gaming revenue of $608.6 billion and accounted for roughly 38 percent of total statewide gaming revenue in 2017, eating up more than its share of the increase in commercial casino gaming revenue. Not only did National Harbor attract a number of Washington D.C. gamblers that did not previously gamble, it also pulled consumers away from its competitors. Maryland Live!, the state’s second-largest facility posted a 16.6 percent decrease in total gaming revenue, while gaming revenues at Horseshoe Baltimore fell 16.3 percent year-over-year. The casinos’ inability to attract customers had a disastrous impact on bottom line revenue.
Maryland Live! and Horseshoe casinos chose not to compete on price and instead look to find other axis to attract gamblers to their casinos. Maryland Live! has a $200 million expansion scheduled for completion in 2019, including a new 17-story hotel and convention center, spaces for live entertainment, private gaming and new restaurants. They are also offering special promotions including giving away Tesla electric cars and guaranteeing jackpots up to $100,000 every weekend in June. Horseshoe is banking on participation in the country’s oldest nationwide player loyalty and rewards program, run by Caesar Entertainment, to remain competitive.
As gaming revenues continue to grow with the number of firms fixed, economic profits for casinos will continue to mount, a condition that would normally leave room for new market entrants. However the casino quota along with the indirect pricing system combine to create an environment that doesn’t reward price competition. As long as the casinos can avoid price competition and leave their profit margins remain intact, the house will always win.
SOURCES:
Handbook of Industrial Organization: Casino Game Markets