The FTC Is Undermining Democracy

The Federal Trade Commission has proposed a rule prohibiting “non-compete clauses” in employment contracts. The FTC proposes a broad ban on any practice that prevents workers from seeking or accepting alternative employment. The ban would extend to all jobs and all employers not exempt from the FTC’s jurisdiction (e.g., airlines and banks).

The FTC cites an English court decision from 1711 as the foundation of current U.S. law on non-competes. The court in that case enforced a clause under which the seller of a London bakery pledged not to open a new bakery nearby. The court, however, also declared that non-competes were unenforceable when unrelated to a legitimate transaction like the sale of a business.

Non-compete clauses first appeared in late medieval apprenticeship “indentures.” They were contracts requiring apprentices to work without wages for fixed periods, and requiring master craftsmen to feed, shelter, educate, and train their apprentices. Part of the bargain often was that the masters would not face competition from their former apprentices. 

Balancing the interests of the parties and the public, English courts enforced non-competes in both scenarios only if they were reasonably limited in duration and geographic scope. Because this “rule of reason,” accounting for details and circumstances, was incorporated into antitrust law in 1911, the Supreme Court has cited the 1711 decision as a foundation of U.S. antitrust law.

Supreme Court Justice John Paul Stevens set out the competition rationale for permitting certain non-compete clauses accompanying the sale of a business: “The long-run benefit of enhancing the marketability of the business itself—and thereby providing incentives to develop such an enterprise—outweighed the temporary and limited loss of competition.”

Non-compete clauses are governed by state contract law, which took English law as a starting point. Some states have banned the clauses in one or two occupations (especially physicians) or for broad categories (workers earning less than a given amount), and three states banned them for nearly all workers. Over the past decade, many states’ laws have become more restrictive.

FTC Chair Lina M. Khan and the other Democratic commissioners believe that the states are not moving fast enough or far enough, and whether the FTC’s proposed rule goes too far is an important subject for debate. The more important question, however, is whether the FTC should be regulating employment contracts at all. 

The FTC’s power to impose such a rule is by no means clear. The FTC points to a provision in the 1914 statute that created the agency, but a court likely would demand clearer language, as the Supreme Court did last year in West Virginia vs. EPA. That decision held that the EPA lacked the authority to impose a rule addressing climate change. 

The FTC’s focus on employment contracts also is troubling. They are within the province of state law, and the FTC had no enforcement experience in the area before the appointment of Chair Khan. The FTC grounded its proposal on academic research rather than its own investigations, and did not expose that research to either discovery or cross-examination. 

The consensus view has been that non-competes sometimes promote competition and sometimes suppress it, depending on the details and the circumstances. The research relied upon by the FTC does not undermine this consensus. The FTC sidesteps the consensus by arguing that the procompetitive effects of employment non-competes can be achieved in another way.

The FTC asserts that, “if an employer wants to prevent a worker from leaving right after receiving valuable training, the employer can sign the worker to an employment contract with a fixed duration.” But that is what an employer cannot do; the right to quit is inalienable. An employer could sue to recover training expenses, but the litigation costs might be prohibitive.

Low-wage workers are apt to receive little training, so a ban limited to them might be justified, but the FTC proposes a ban extending to the highest paid CEOs. This way, the FTC can claim that the rule would promote competition in goods markets. The idea is that highly skilled workers are scarce resources that large incumbent competitors deny to smaller rivals and potential entrants. 

Employers pass through much of any wage increase to customers, and the FTC proclaims that its proposed rule would increase wages by at least $250 billion per year. In these inflationary times, a rule that raises prices would be a hard sell. Thus, the FTC claims to promote competition in goods markets, even if the evidence is exceedingly weak.

Woodrow Wilson, who is credited with creating the FTC, voiced his reservations throughout the 1912 campaign. In his Labor Day speech, for example, he declared: “God forbid that in a democratic country we should resign the government over to experts.” That is precisely what Chair Khan proposes, and we should heed the creator’s warning. 

Gregory Werden retired in 2019 from his position as Senior Economic Counsel, Antitrust Division, Department of Justice and is a now visiting fellow at the Mercatus Center at George Mason University.