President Truman famously asked to be sent a one-armed economist, having tired of his economic advisor proclaiming, “On the one hand, this” and “On the other hand, that.”  Unfortunately, most public policy issues involve economic trade-offs. The economics of employer-employee non-compete clauses are yet another example. 

Several States and the Federal government have considered or are considering restricting or banning non-compete agreements. Under these agreements, employees typically agree not to start a company or accept a job in a similar line of work that competes with their original employer.  

On one hand, non-compete agreements protect firms’ investment in intellectual property and proprietary development. Firms spend a lot of time, effort, and financial resources developing business processes, cultivating customers, refining products, and fine-tuning marketing plans. Employees may join competitors or form competing firms, using their knowledge of the original firm’s investment. Non-compete clauses incentivize firms to make these investments and invest in current employees.  

On the other hand, competition in both product and labor markets is at the heart of a free-enterprise system and is the basis of many of its benefits. Non-compete agreements reduce employee mobility and can suppress wages. Firms may also have more difficulty competing for quality employees because of non-compete agreements. Less competition may increase product prices, harming consumers. To reduce competition, employers may also write non-compete agreements that restrict employee freedom well beyond what is required to protect employer intellectual property. 

About 18% of workers in the United States are bound by non-compete agreements. Interestingly, the rate is similar in states like California that don’t enforce non-compete agreements.  

What do recent studies show about the economic impact of non-compete agreements? Non-compete agreements reduce mobility and increase employees’ job tenure. Some studies find that non-compete agreements decrease wages since employees have fewer other job options. Other studies find that non-compete agreements increase wages since workers become more productive.  

Marx et al. (2015) found that non-compete agreements cause a brain drain away from states with non-compete agreements to states where such agreements are not enforceable. They also found that the most productive and collaborative workers are the most likely to move. Another study finds that non-compete agreements discourage women from leaving their current employer or hiring talent for high-growth startups. The authors hypothesize that women are more risk-averse and more likely to want to avoid potential litigation.  

We are two armed economists; non-compete agreements reduce competition and can protect employers’ intellectual property.