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Opinion Banning noncompete clauses would be an economic game changer

Lina Khan, who now leads the Federal Trade Commission, at a hearing on April 21, 2021. (Graeme Jennings/Reuters)
5 min

The Federal Trade Commission’s proposal to ban noncompete agreements would be an economic game changer, affecting up to one-fifth of American workers. Noncompetes forbid workers from starting a similar company or working at a rival firm for up to several years. The agency is right to be concerned. It should move forward with a partial ban covering low- and middle-income workers.

Some critics argue that the FTC’s move shows that the Biden administration is catering to labor unions. But banning noncompetes for most workers has substantial bipartisan support, because it is justified by research and real-world experience. Noncompetes depress wages, hamper people’s ability to change jobs and have a “chilling effect” on entrepreneurship, studies show. A free-market economy works better when workers may take their talents to the places they can do the most good.

These sorts of agreements have been around for centuries. They began with a reasonable premise: Companies invest time and money to train workers, and they don’t want those workers to leave right away for a rival firm. But over time, noncompetes have become draconian, sidelining workers for longer periods of time and restricting employees from working in ever-larger geographical areas. Today, nearly 1 in 5 U.S. workers are asked to sign a noncompete during their onboarding for a new job. Even some hourly workers at fast-food chains have had to agree to these parameters. In an eye-popping example, workers who made sandwiches at Jimmy John’s had to sign noncompetes saying they would not take a job at a rival firm for two years. (The company was forced to drop it.)

A number of states already have a version of the FTC’s proposed policy. With limited exceptions, three states ban noncompetes: California, North Dakota and Oklahoma. Eleven other states, plus the District of Columbia, ban it for a substantial number of workers. These states typically restrict noncompetes for workers making below a certain hourly wage or annual salary. For example, Washington state bans noncompete agreements for workers earning under about $107,000 a year, covering about three-quarters of the state’s workers.

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Now, the FTC is in the process of deciding how far its ban should go. A policy akin to Washington state’s makes the most sense.

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Noncompetes are particularly imprudent for low-wage and middle-income workers, especially as labor force participation shrinks, making it harder for companies to find qualified workers. Workers need to be able to change jobs — and even industries — as the economy evolves. Moreover, workers earning less than six figures don’t have the clout to negotiate the terms of a noncompete or hire lawyers to read over every paper they sign when taking a job. From an employer perspective, it’s difficult to argue that someone paid below an executive salary is so critical to a company that they should be barred from moving on and working elsewhere.

Opponents of any FTC ban argue that companies need to protect trade secrets and that firms won’t invest in worker training without noncompetes. But if companies want to protect trade secrets, there’s a better way: nondisclosure agreements. Similarly, while there is some evidence that companies with noncompetes do more worker training, the same study finds no evidence that these workers get paid more after that training. Indeed, the recent explosion of noncompetes has not changed the fact that the United States is woefully behind other countries in job training.

If companies feel as though they need to have their workers take a special course or program, they can have employees sign a “training repayment agreement,” in which workers agree to stay for a certain number of years in exchange for the company funding the training. Military academies have long used this model. It’s very clear to prospective workers.

Conservative legal experts also oppose the FTC proposal on the grounds that it is a “power grab” by the agency. But the FTC is charged with going after unfair methods of competition, and noncompetes are a prime example of uncompetitive behavior that states as different as Massachusetts and Oklahoma have barred.

On the other hand, proponents of imposing a total federal ban covering all workers, as the FTC has initially proposed and is currently seeking comment on, point out that California has had such a ban in place for decades, yet Silicon Valley has still thrived. Similarly, lawyers have a ban on noncompetes in their profession, and they are doing fine. Advocates for a full ban point out that high-wage workers, especially in tech and medicine, are often the most likely to leave and start their own company, and the societal benefits of their entrepreneurship can be large. But many of these workers have the clout and knowledge to negotiate any noncompete arrangements up front, before they take a job, making federal intervention less necessary.

The U.S. economy is suffering from a lack of dynamism. This century there’s been a surprising decline in the number of Americans starting businesses and moving to different states in pursuit of economic opportunities. Meanwhile, many companies are also struggling to find enough workers. Noncompetes make these problems worse.

In an ideal world, Congress would pass legislation banning noncompetes for most workers. Because that’s unlikely, the FTC would be right to move ahead.

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