So long as each NPC's reason for fighting in the "tournament" made sense, it would be a great event to RP around. At worst, anything that attracts a lot of players to particular locales will give ample opportunity for them to RP.

But it could also provide a new flavor of group vs. group RP. Each cabal, religion, race, etc. could pick a champion, whom they would have to protect before fights. Thieves could try to manipulate the betting; assassins could try to "change the odds"; Tribunals could try to keep order. Since the winning NPCs would receive prizes (read: loot), the event would carry on even after the tournament is officially over. And that's just the most obvious event-focused stuff that could happen.

I love the idea primarily because of the positive effect it could have on RP.

Furthermore, I think Seantryn Modan must be destroyed.