Noncompete-clause tyranny

In “Regional Advantage,” her classic 1994 explanation of why Silicon Valley became the center of the tech universe and Route 128 outside Boston did not, AnnaLee Saxenian of the University of California at Berkeley argued that a key difference was that in Silicon Valley people jumped from company to company, while along Route 128 they stayed put.

In Silicon Valley, Saxenian told me in a 2014 interview:

People start companies, they fail, they succeed, they move on. And that seeds new companies, and those people carry on the knowledge and the know-how but it gets recombined with other skills and technology. Whereas you can think about the Route 128 company as being autarkic. The company was the family … and everything stayed within the company.

Saxenian wrote that in Silicon Valley, “Early efforts to take legal action against departed employees proved inconclusive or protracted, and most firms came to accept high turnover as a cost of business in the region.” Along Route 128, which rivaled Silicon Valley in the 1960s and 1970s before falling behind in the 1980s, it was a different story. One leading firm, Data General, “repeatedly sued competitors and former employees to prevent the loss of proprietary corporate information.”

- Advertisement -

Saxenian, a political scientist who’s now dean of Berkeley’s School of Information, depicted this difference in litigiousness as the product of broader cultural differences between Massachusetts and California. Writing a few years later, Stanford Law School’s Ronald J. Gilson suggested that maybe the legal differences came first. In Massachusetts, as in 46 other states, it’s possible for employers to enforce post-employment covenants not to compete — aka noncompete clauses. In California it generally isn’t.

Noncompete clauses usually ban employees from going to work for a competitor or starting a competing firm for some predetermined period of time. Such agreements have been around since at least the 1400s, with proponents defending them as a way to encourage employers to develop new technologies and invest in worker training (because they have less reason to fear losing their secrets and their valuable employees to a competitor) and critics depicting them as an unfair restraint of trade that hurts workers.

California’s ban on the enforcement of noncompetes dates to the 1870s, a serendipitous result of the historical coincidence between the codification movement in the United States and the problems confronting a new state in developing a coherent legal system out of its conflicting inheritance of Spanish, Mexican, and English law. The existence of this anachronistic legal rule at the time that Silicon Valley developed solved the collective-action problem associated with encouraging employee mobility within the district.

Thanks to dumb luck, then, California ended up with a legal framework that encouraged the creation of Silicon Valley. And thanks to Saxenian and Gilson, there was a big, new argument against noncompetes: They make it harder to create another Silicon Valley.

Other scholars have in recent years found that noncompetes reduce job mobility and entrepreneurship and cause brain drain from regions that enforce them.

Overall, academic research since the 1990s has shone an increasingly unflattering light on noncompete clauses. Yet actual use of noncompete agreements has grown since 2000, at least according to studies of chief executive officer contracts and legal rulings.

In Massachusetts, where lawmakers have repeatedly proposed bans on noncompetes in recent years but haven’t been able to muster enough votes, a new bill that would stop short of banning but put some serious crimps in the practice appears to stand a better chance.

I think more states should consider outright bans. It sure seems to have worked out OK for California. •

Justin Fox is a Bloomberg View columnist.

No posts to display