Markets

Non-compete agreements are a market failure. But change must come through legislation, not regulation

For those who favor smaller government and freer markets, the president’s 15-ballot electoral odyssey may seem like a good thing. A House without a Speaker cannot raise taxes, spend money or impose new regulations. But this is a mirage because a functioning market economy, after all, needs a democratic, accountable legislature that can oversee it. And the problems with the Biden administration’s worthy pro-market Federal Trade Commission (FTC) proposal show why.

The proposal is to ban non-compete agreements, which prevent workers at one firm from switching to competitors or starting new jobs. Basically, the policy idea deserves the support of free market advocates. American workers are generally “at-will” workers, meaning they can be fired at any time for any legal reason. The opposite of this, in theory, is that workers can also leave their jobs at any time. But, as a practical matter, the existence of non-compete agreements (which cover about 30 million Americans) means that some workers cannot leave at all.

The solution to this is not to ban at-will employment as most other developed countries have — the buoyancy of the US labor market and the highest median incomes in the G7 that Americans earn show that at-will employment works. Instead, it is to fulfill its promise of non-compete legislation.

In fact, the evidence shows that non-competes work. Economic studies confirm that non-compete agreements suppress wages and innovation. Indeed, California has become a global hub of high-tech innovation because the Golden State’s laws prohibit the enforcement of non-compete agreements. This makes it attractive for those with innovative ideas to move to the state and easy for people there to start new ventures.

Now the rest of the United States needs a non-compete law. A company that unilaterally stopped offering non-compete agreements while its competitors did could face a disadvantage, but an economy-wide ban levels the playing field.

All that said, the FTC’s efforts to ban non-competes have problems. First, a regulatory act implemented with one stroke of President Biden’s pen can be overturned with a similar stroke of the next president’s pen. Especially for those considering leaving their jobs to start new ventures (which often require investors), this uncertainty can be a huge problem.

Furthermore, employers who wish to continue using non-compete agreements will file court challenges to the FTC’s authority. At the very least, given that recent Supreme Court decisions have severely limited the ability of unelected regulators to issue new policies with the effect of major laws, the courts will take these challenges seriously. Third, the inherently limited scope of rulemaking makes it difficult for regulations to answer detailed questions. Dozens of issues ranging from the permissible scope of nondisclosure agreements (which can serve as de facto non-compete agreements if written too broadly) to employers’ ability to recoup funds spent on training are not addressed in detail in the FTC’s current notice of proposed rulemaking. While the Commission may address some of these issues in the future, it will never receive the same range of input as an elected legislature.

Furthermore, even if the FTC’s effort is implemented, it will almost certainly slow the momentum of ongoing legislative efforts to address non-compete agreements. The non-compete ban has bipartisan support. Sens. Chris Murphy (D-Conn.) and Todd Young (R-Ind.), and Reps. Scott Peters (D-Calif.) and Mike Gallagher (R-High) introduced the legislation. Therefore, it is something that Congress could eventually pass even in a fractured political landscape. It would also allow more voices from across the political and economic spectrum, through their representatives, to contribute to dialogue and legislation. And a statute would offer a degree of democratic consent, certainty, stability, and sensitivity that an ordinary rule lacks.

Banning non-compete agreements is good, pro-market public policy. The FTC deserves credit for supporting it. But efforts to implement one through rulemaking are flawed and undermine the long-term authority of the people’s elected representatives in Congress. Making major policy changes, even worthwhile ones, by regulatory order is bad for democracy and the functioning of free markets.

Eli Lehrer is the president and co-founder of the R Street Institute.

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