By: Jacob Lubinski
In one of its first moves since the beginning of the new year, the Federal Trade Commission on January 5 proposed a striking new non-compete rule that would cause immense ripple effects throughout the entire economy if it were to pass. The proposed rule would ban non-compete agreements, thus taking a great deal of power away from employers to return flexibility to the American workforce in terms of moving jobs and seemingly drive-up wages. Non-compete agreements are used across almost every industry, where employers ask, or somewhat force, employees to sign a contractual agreement that places geographic and temporal restrictions on the employee if they were to leave the company and want to continue to work in the industry with a competitor or start their own business. Employers argue that these non-competes are necessary to protect client lists, techniques of the trade that the employee may have learned from the prior employer, and confidential information including trade secrets. Another major reason as to why employers continue to use non-compete agreements is to prevent competitors in the area from siphoning employees away from the company to gain a competitive advantage against their competitor and create a scenario where employee wages are constantly growing. Non-competes have been a serious issue for decades, as many believe that they place employees at a notable disadvantage compared to their employers, inhibit competition, drive down wages for all sectors, and limit growth and innovation across the economy. The FTC believes, with the implementation of this rule, that wages could see aggregate increases of almost $300 billion per year and expand the potential career paths of millions of Americans.
The FTC’s proposal has two major pieces: (1) the non-compete rule, when put into effect, would bar employers from entering into non-compete agreements with employees in the future, and (2) it would force employers to cease all non-competes that are currently in effect. The proposed non-compete rule would apply to not only paid employees, but also volunteers, interns, contractors, and any other persons who work for an employer. The only proposed exception is for non-compete contracts entered into during the sale or acquisition of a business between the parties on both sides of the transaction with those who own a 25% stake in the business to remain eligible to be restricted by a non-compete. The FTC would accomplish these two components by stating that non-compete agreements violate Section 5 of the Federal Trade Commission Act (“FTCA”), which outlaws all “unfair methods of competition,” and places a restriction on individuals, partnerships, corporations, and other forms of business entities from “using unfair methods of competition in or affecting commerce.” Under Section 6(g) of the FTCA, the Commission is granted the power to create and implement any rules or regulations that are necessary to ensure the FTC can carry out its mission of ensuring fair competition throughout the economy effectively.
The elimination of non-compete agreements would have an immense number of positive impacts on the economy. First, individuals would no longer be stuck in the same job with little bargaining power. In the present day, employees in all sectors could potentially be faced with a version of a non-compete that prevents them from leaving their job, unless they are willing to drive further to work, or in some instances, move to an entirely different state. In the medical field, doctors are faced with non-competes that force them to move far enough away, such that their current patient population would not be tempted to leave the current employer to follow the doctor. Studies conducted by Johnson and Lipsitz (2021) and Marx (2011), explain that 30% of hair stylists and 43% of electrical and electronic engineers face non-competes at their employers, respectively. While these are just a few examples of professions that are currently inundated with non-competes, it exemplifies the restrictions that are placed on employees, especially when they look to make a move to another company or place of work.
On top of allowing workers to have a wider range of career options, especially in their current locale, wages for workers across all industries could see increases. The FTC uses a 2019 study to explain that of employers in the same industry, those who enforce non-compete agreements pay lower wages than employers who do not. Further, the elimination of non-competes will likely lessen the wage gap evident in women and non-white workers, with the proposed non-compete rule noting that “banning non-compete clauses nationwide would close racial and gender wage gaps by 3.6-9.1%.” Finally, the FTC explains that the elimination of the non-compete agreement will do tremendous wonders for innovation across all industries, akin to the level of innovation seen in California’s technology industry. Since the 19th Century, California has maintained a ban on non-compete agreements, which FTC Chair Lina Khan explains is the reason as to why Silicon Valley has become the hub of America’s technological revolution over the last few decades. With no limitation on workers, people have been able to move from company to company, as well as start their own, which has only helped technological progression move as rapidly as it has. While companies, even in California, might reasonably be stressed about employees sharing private information to different employers, there remain strong alternatives such as non-disclosure agreements and trade secret laws that can help to ease these concerns, while still allowing the free flow of labor to occur.
While California has been the leader in the United States in terms of refraining from using non-compete agreements and championing innovation over competition, other states are much further behind. In Title 3 of Maryland’s Code Annotated for Labor and Employment, Section 3-716 puts forth Maryland’s stance on non-compete agreements as of October 1, 2019. The state currently prohibits employers from requiring non-compete agreements when the employee is earning equal to or less than $15 per hour, or $31,200 per year. The state also includes a provision that prohibits non-competes in violation of public policy, which occurs when an agreement “restricts the ability of an employee to enter into employment with a new employer or to become self-employed in the same or similar business or trade.” While the monetary restrictions are limited and seemingly allow non-competes to be required for many professions that exceed those numbers, the public policy exception takes a strong stance on ensuring that geographical and temporal restrictions are not excessive. If the restrictions are excessive, they will be subject to being struck down by a court.
With the economy in a rut due to the Covid-19 pandemic, this proposed rule banning non-competes would be a step in the right direction to bring employment power back to the employees. There are skeptics of this proposal, including Rep. Victoria Spatz (IN-05), who believes that an outright ban on non-compete agreements across all sectors is inappropriate, stating that the issue should be left to the states or decided by Congress. Further, an opinion piece authored by Bloomberg Law’s Tyler Cowen notes that senior employees will have a greater advantage, company hierarchies will be less inclined to share information with new employees, and investment in workers will decline as the potential for employees jumping ship to a nearby competitor increases. If competition for workers increases with the free flow of labor coming back down to reality in the economy, there can be numerous immediate benefits from rapid innovation, from a rise in the standard of living for many Americans, to new opportunities that many did not believe they had in the past. The FTC is looking for commentary on this proposes non-compete rule, and if you are so inclined, you can leave a comment at https://www.regulations.gov/docket/FTC-2023-0007/document.