The FTC’s noncompete clause rule goes too far
About 1 in 5 U.S. workers – 30 million people – are subject to a so-called noncompete clause as a condition of employment. These typically forbid an employee who leaves one company from starting a similar one of their own, or working for a rival firm, for periods that can range up to several years. Defended as necessary to help companies protect trade secrets and their investments in worker training, noncompetes have now spread well beyond what’s necessary for such legitimate purposes. On balance, their impact is negative for both workers and the economy more generally. A number of states – red and blue – have limited noncompetes. But what’s really needed is a uniform federal rule. The key questions are what that rule should be, and what part of the federal government can most appropriately enact it.
The Federal Trade Commission has precipitated the issue with a sweeping new regulation banning noncompete agreements. It takes effect 120 days from Tuesday, which is when the FTC published it in the Federal Register. The new rule both nullifies existing noncompetes for workers who earn less than $151,164 a year and bars new noncompetes – even for senior executives who make more than that amount. If the FTC has its way, pretty much the only allowable use of a noncompete would be to protect the buyer of a business against competition from a new firm set up by the seller.
As a matter of policy, the FTC’s rule has a lot going for it. On both equality and efficiency grounds, there should be a strong presumption in favor of letting workers take their talents where they can earn the highest reward. And yet at present, even some low – and semiskilled hourly workers at fast-food chains have had to accept noncompetes. At one point, even sandwich-makers at Jimmy John’s had to agree not to join a rival firm for two years after leaving. (The company dropped it as part of a 2016 agreement with the New York attorney general.) A body of economic research shows that noncompetes depress wages, hamper people’s ability to change jobs and “chill” entrepreneurship. Yes, companies that use noncompetes do tend to train workers a bit more than other firms, but they do not necessarily raise pay afterward. As for trade secrets, if companies want to protect them – as they do and should – nondisclosure agreements offer an alternative.
There’s substantial bipartisan support for abolishing noncompetes. With limited exceptions, four states already have: California, North Dakota, Minnesota and Oklahoma. Ten other states, plus the District of Columbia, ban noncompetes for workers who earn less than a certain amount, or for hourly workers generally. Other states limit noncompetes for certain job categories, such as health care, to enable doctors and other specialized personnel to switch workplaces as needed.
There are two problems with the FTC’s rule. The first is that it sweeps too broadly. We favor a ban focused on workers earning under about $100,000 a year. That would cover 80 percent of the workforce, leaving companies free to impose the restrictions on higher-earning personnel, who are likeliest to possess trade secrets or to have received expensive training. The second problem is that the FTC might not actually have the legal authority to enact any rule in this area. Business groups have already filed lawsuits making that argument – and it’s not a trivial one. The FTC based its regulations on aggressive interpretations of both the agency’s jurisdiction over “unfair methods of competition” and its power to combat such practices through regulatory action. Extended litigation looms and could result in an injunction blocking the rule before it takes effect.
As difficult as it might be to get any legislation through Congress these days, that remains the best way to ensure that a noncompete ban stands on solid legal and political ground – and that a politically accountable branch makes the inevitably difficult decision about which workers to cover. Multiple bipartisan bills in Congress address the issue, though they have yet to advance. (The fact that some lawmakers deemed legislation necessary undercuts the FTC’s argument by implying that new authority was needed to rein in noncompetes.)
The United States just went through a great reassessment of work during the pandemic. Tens of millions of people changed jobs – and even industries – as the economy evolved. We need more, not less, labor market flexibility, which has served the economy so well.