Why Noncompetes Could Soon Be a Non-Thing

Wacky stories of fry cooks who can’t move to a competitor’s grill for a raise, or mid-level execs with ambition and a bright idea who can’t start their own firms make noncompete agreements easy to hate. A recent proposal by the Federal Trade Commission (FTC) that would ban most noncompetes is based heavily on research by Evan Starr, a University of Maryland associate professor of management.

Starr, an economist, has spent years studying the use of these agreements for both low-wage workers and employees with specialized skills, documenting their sometimes-crippling effects. As the comment period on the proposed rule continues, Starr spoke to Maryland Today about the growing move to curb noncompetes and his own experience with them.

What’s the silliest noncompete clause you’ve heard of?
Not sure it’s absolutely the most extreme, but when I was in grad school, my wife volunteered for Girls on the Run International, a nonprofit that takes girls running after school. At the end of her signup form was a two-year noncompete agreement to the effect that you could not start or even help any after-school physical education program for girls. We were in Michigan, but I went online and signed up as “Evana Starr” for the same organization in Silicon Valley, and had to sign the same noncompete, even though California has made them unenforceable since 1872.

Why would they ever require that?
For nonprofits, major sources of funding come through their donor networks, which tend to be attached to certain employees. If someone goes somewhere else and takes that with them, it may kill your donations. As for why organizations have you sign an ultimately unenforceable agreement: Most workers have no idea what the state laws are. They tend to think when they sign their name on a dotted line, the contract will hold up in court. They can’t afford lawyers, and so most workers can be chilled just by the threat of enforcement of these things.

Presumably, many people reading this have never been asked to sign a noncompete. Why should they care?
We tend to think of noncompetes in isolation: A given worker signs one, and how does affect them? But what happens when a whole labor market is bound by noncompetes? Take the tech industry, for example. If most firms use noncompetes, how can anyone start a new firm? And if someone does start a new firm, who can they hire? As a worker, who is going to give you a job offer if you want a raise? Our main finding in one paper about this idea was that in places with widespread, enforceable noncompetes, the entire labor market is less dynamic. And importantly, the overall effect in that market is the same for workers not bound by noncompetes. You may be affected by someone else’s noncompete and not even know it.

Is there a rational economic argument for noncompetes?
This is the question that has really motivated all my research, because courts have been stuck in debates about noncompetes since the first case about them in England in 1414. The main theoretical rationale is that, absent noncompetes, firms may be less likely to invest in the development of trade secrets and other valuable information because they will be concerned that such investments may just subsidize their competition. However, the analysis I’ve done suggests that firms don’t really value the ability to enforce noncompetes against most workers, largely because they have other tools to protect their interests. If anything, they care about the top executives, people who hold the keys to the kingdom, so to speak, and who companies may rationally not want jumping to a competitor.

Your research underpins a lot of the Biden administration’s deliberations on this, as well as pending FTC rules. Where does all the interest come from?
Much of it is a continuation of concerns from the Obama administration. In 2014 we had the Jimmy John’s case where noncompetes were being used for minimum-wage sandwich makers, and there was the case of Amazon asking temporarily employed packers to sign 18-month noncompetes that prohibited them from working in any industry anywhere in which Amazon was selling anything. It was extreme. So the administration said, “Huh, this may be affecting labor market competition.” At the same time, there was a kind of awakening among economists that maybe labor markets aren’t as competitive as we’ve long assumed. And then of course FTC has also become very interested in all of this.

What’s likely to happen?
I do expect the FTC will move forward with their rule. There’s a question of whether it will cover everyone or if there will be carveouts for top executives. In the short run, if the FTC’s rule goes into effect there will likely be legal challenges, and a decision will be made as to whether the proposed rule will be allowed to come into effect as the courts address the challenges.

If the courts ultimately allow the rule, or federal legislation to ban noncompetes passes in the interim, then the empirical research suggests several things will happen. Workers will be more likely to change jobs and start new firms and wages will likely rise. Innovation driven by the recombination of ideas and the ability to hire needed talent will also likely increase. At the same time, I would expect a small increase in litigation related to trade secret misappropriation and the disclosure of confidential information, as employers substitute towards alternative restrictions.