It’s easy to understand why the U.S. Chamber of Commerce is so upset about the Federal Trade Commission’s decision to ban noncompete agreements. The problem for businesses is not that they will lose trade secrets or valuable investments in workers to competitors. It’s that they just lost bargaining power to workers — and that’s exactly what the FTC intended.
Despite the common perception that noncompete agreements are relevant only for employees who possess critical trade secrets, the reality is that they are often imposed across various industries on a wide spectrum of workers, many of whom do not handle any sensitive information. It’s also the case that most hiring in the US involves people leaving one job for another — which is a critical factor shaping the dynamism of the labor market.
To see why noncompetes matter, it’s important to understand the value of the right to quit one job and take another. The question is, who should hold that right?
When parties can negotiate without cost and rights are clearly defined, noted the Nobel laureate Ronald Coase more than half a century ago, they will reach agreements that lead to economically efficient outcomes. With the FTC’s ban, the bargaining power shifts from employers to workers: Employers must make more competitive counteroffers to retain talent.
Previously, if you were governed by a noncompete agreement, you theoretically could pay your employer to let you out of it. Now, according to Coase’s theory, even though the number of workers switching jobs might not change, the ban will have a distributional effect: Workers hold more bargaining power, and therefore could end up with higher wages.
Some might ask: Wouldn’t workers simply have negotiated higher wages to compensate them for signing noncompete agreements in the first place? If this is true, then a ban on noncompetes would have little effect on wages. The evidence, however, suggests that most workers do not do this type of forward-looking negotiation. In fact, many workers sign noncompete agreements without realizing that they are not legally enforceable in their state.
Workers often face significant challenges in negotiating terms, especially when they lack information about their options and the job market. The process of understanding and negotiating over noncompete agreements can be particularly daunting without legal assistance, leading to a negotiation that is cheaper for — and therefore favors — employers.
Moreover, noncompete clauses exploit behavioral biases that lead workers to underestimate their future cost. Some workers may even be ready to start a new job when the noncompete agreement is shown to them. In the comments received by the FTC, many workers noted that they weren’t aware of such clauses until the last minute.
These arguments imply that banning noncompetes might be important not just for higher wages, but for greater labor competition as workers become more mobile and make more employment transitions. Research suggests that noncompete agreements can restrict economic activity and personal career growth. And it’s not just labor market competition that is reduced. By restricting labor supply, existing businesses can prevent new competitors from entering their markets and driving down prices for consumers.
Supporters of noncompetes argue that they are necessary to protect business secrets and justify investments in employee training. But existing laws already protect confidential information. And businesses can adopt alternative strategies such as training repayment agreements, which are more directly tied to the specific investments made in employees. Finally, Coase’s work shows that there is no difference in these outcomes if the payments are made to retain workers, as businesses can offer to pay workers not to take jobs with competitors.
The FTC’s ban on noncompete agreements will help enhance labor market efficiency and economic growth. The U.S. needs a competitive economy to stay strong in the global marketplace. And that requires workers who are able to take their skills where they are most valued — and new businesses that have access to the full talent of the U.S. labor force.
In most other advanced economies, workers have rights to keep a job. The U.S. does not require employers to give reasons for terminating workers, provide performance improvement plans before terminating workers and, when terminating a worker, a sufficient paid notice period. The argument against those policies is that they would make it hard for the U.S. to have a dynamic labor market. But the same logic applies to noncompete agreements: If it should be easy for employers to fire workers, then it should also be easy for employees to quit. And that requires workers to have the right to take a better job. By allowing workers to move freely to roles where they are most valued, the FTC is fostering a competitive and fair labor market.
Betsey Stevenson is a professor of public policy and economics at the University of Michigan. She was on the president’s Council of Economic Advisers and was chief economist at the U.S. Department of Labor.