“You’re not really free if you don’t have the right to switch jobs or choose what to do with your labor,” Lina Kahn, the chair of the Federal Trade Commission, wrote earlier this month. But thanks to noncompete clauses that ban employees from working for similar businesses if they leave their jobs, that is the reality for millions of Americans. Under Khan, the FTC wants to eliminate that practice. On January 5, the agency, which is responsible for regulating businesses so they don’t engage in unfair and uncompetitive practices, announced a proposed rule that would make noncompete clauses illegal.
“Non-union workers have one source of power with respect to their employers, and it is their ability to quit,” said Heidi Shierholz, president of the Economic Policy Institute. “The only thing they have is the ability to say, ‘If you’re not paying a competitive wage, I’m just going to go somewhere else.’” Even if they don’t leave, it often takes a credible outside offer to get an employer give someone a raise.
Noncompetes erase workers’ power to improve their incomes, then, by removing the best card they can play. Having that power back would be significant. The FTC has estimated that its proposed ban, if enacted, will raise wages by nearly $300 billion a year. Evan Starr, an associate professor at the University of Maryland who has studied noncompetes, argues that this is a low estimate, because when firms can no longer game a patchwork of state laws to keep using them, the impact may be even larger than past studies have found.
The effect noncompetes have on workers was made all too clear in legal action the FTC announced against three companies just ahead of releasing the proposed rule. According to the FTC’s complaint, security guards at Michigan-based Prudential Security and Prudential Command, who typically earned around minimum wage, were required to sign contracts that banned them from working for a competing business within 100 miles for two years after they left. If they violated that part of the contract, they had to pay the company a $100,000 penalty. The company allegedly used the noncompete clauses to sue workers and block them from taking jobs with higher pay. If the FTC’s rule is finalized and goes into effect, such clauses will be against the law.
That will also bring relief to workers like Leinani Deslandes, a McDonald’s employee who made $12 an hour in 2011 but was eager to earn more. When she found her upward path blocked by supervisors after they discovered she was pregnant, she decided to look for another management job with a different McDonald’s franchise and found one that would eventually pay her $14.75, a 23 percent raise. That’s when she learned that franchisees sign contracts with corporate headquarters including “no hire” clauses saying they can’t “employ or seek to employ any person” who had worked for another franchisee in the past six months. Deslandes’s employer refused to release her from the clause, and she was stuck. She finally quit her job in early 2016 and had to start all over, earning $10.25 an hour in an entry-level position at Hobby Lobby.
These workers don’t represent isolated cases. By using national representative survey data, Starr and his coauthors found that approximately 18 percent of workers were bound by noncompetes and almost 40 percent had agreed to at least one in the past. Using a different survey of private-sector companies, Shierholz and a coauthor found that nearly half of responding companies required at least some employees to sign them, and nearly a third made all employees agree to them. They concluded that somewhere between about 28 and 47 percent of workers are subject to noncompetes, or between 36 and 60 million people.
“A really meaningful share of the labor force is subject to these things,” Shierholz said.
Noncompetes are more common for higher-paid workers, but they show up everywhere, including plenty of low-wage jobs. When researchers looked through franchise agreements at 156 large chains, they found that nearly 60 percent had non-poaching clauses, even at workplaces like Burger King and Baskin-Robbins. Starr once found a noncompete clause in a contract for a volunteer position at a nonprofit.
Employers argue that noncompetes are necessary to prevent employees from taking trade secrets to competitors. But there are plenty of other ways companies can protect such information, such as tailored non-disclosure agreements protecting such information or intellectual property laws, including trade secret law itself. “None of those explicitly prohibit workers from changing employers,” Starr noted. “Noncompetes are so blunt.”
Workers have little ability to refuse to sign them, either. About a third of workers are required to sign them as part of the onboarding paperwork, “the time when you have the least bargaining power in the world: You’ve just accepted a job, turned down other job offers,” Shierholz pointed out. Some companies bury them deep in employee handbooks so workers aren’t even aware of them.
Some natural experiments have allowed economists to estimate just how much noncompetes hold down wages. In 2008, Oregon banned them for hourly workers. When Starr and his coauthor compared the affected workers to similar ones in neighboring states, they found that the barring of noncompetes raised wages by an average of 2 to 3 percent. It also increased job mobility for workers, allowing them to switch to other work, without reducing working hours. In 2015, Hawaii banned noncompetes for technology employees. Starr and others found that starting wages for tech workers in Hawaii rose 4 percent and job mobility increased by 11 percent as compared to wages in comparable states.
“When you ban noncompete agreements, workers benefit,” Starr said plainly. “Their wages rise. They’re more mobile.”
There may be concerns about enacting this rule in an environment where the economy has been trying to recover from rising inflation, given that it’s estimated to dramatically increase workers’ pay. But inflation is already decelerating, and if the rule is finalized, it won’t take effect for months afterward. Even then, it will take some time for workers to make use of their new freedom and seek out jobs with better pay. The measure will have counter-inflationary impacts, too: It will put downward pressure on prices thanks to higher competition, which will help counteract any increase in prices companies may want to enact to cover the higher labor costs. Productivity is likely to increase when workers can change jobs and find the ones best matched with their skillsets and needs.
Both Shierholz and Starr said that the FTC’s proposed rule is particularly strong and comprehensive. It only provides an exception for someone selling a business entity; that person can be legally asked not to immediately create a version of that same business. There are no carve-outs for higher-paid workers or those in certain industries.
The proposed rule also requires companies to proactively remove noncompetes from their employment agreements and, if they had one that they had to remove, notify employees that it is no longer in effect. That’s important, given that even in states that have made noncompetes unenforceable, companies still find ways to use them. Employers in California, which enacted a ban on them as early as 1872, still include them, sometimes as an empty threat, knowing that workers may not have the bandwidth to fight back, and sometimes including them alongside a provision saying that the contract should be adjudicated in a different state that hasn’t banned them. “When they’re banned in every state, you don’t have that solution,” Starr said. Any threat, even if legally empty, impacts workers. Many workers don’t have the time or resources to fight off such a lawsuit, even if the law is on their side, and if they do many will settle before a court even weighs in. “There’s also the threat that you could be labeled somebody who breaks your word. You might feel like you made a promise and you have to uphold that promise,” Starr said.
Perhaps counter-intuitively, the FTC’s proposed blanket ban “makes it a lot easier for firms and workers,” Starr argued. An outright, nationwide ban “is actually much easier than navigating the current swath of laws we have in the US, which are so haphazard.”
Even someone who has never faced signing a noncompete will stand to benefit. “Noncompetes don’t just hurt people who have them,” Shierholz said. “They hurt everyone, because they just put downward pressure on wages.” If employers don’t feel any pressure to increase pay, their competitors won’t, either. Noncompetes also reduce the dynamism and productivity of the whole economy by keeping people with innovative ideas from leaving and starting their own businesses. That hurts consumers, who will face higher prices if companies don’t have to compete with new market entrants on price.
Starr has found that where noncompetes are frequently used, wages are lower, workers are less likely to be move between jobs, and workers are less satisfied with their jobs—whether they’re covered by the noncompetes or not. “Noncompetes do not just affect workers and firms that agree to them,” Starr said. “They have externalities.”
The FTC is currently seeking public comments on its proposed rule through March 10. After that, the agency will review the comments and potentially make changes before finalizing it, and it would take effect 180 days after the final rule is published. But that all assumes everything goes smoothly. It’s likely to face legal challenges; the US Chamber of Commerce, for example, has already come out against it. “It is not the role of government to direct the behavior of business, redistribute power in our economy, or undermine the competition that fuels free enterprise,” Chamber of Commerce president Suzanne Clark said.
Shierholz argues that it’s well within the agency’s purview. “There is no pretense that [noncompetes are] not anticompetitive,” she said. But the FTC rule, she added, “will totally be challenged, as will every rule that comes out of this administration.”