Intellectual Property Justifications for Restricting Employee Mobility: A Critical Appraisal in Light of the Economic Evidence

Abstract

Legal impediments to labor market mobility, such as enforcement of restrictive covenants and trade secrets law, have only recently come under careful economic scrutiny. So far, there are no provable social gains in enforcing noncompete covenants. Studies have made empirical comparisons between enforcing and nonenforcing states, some horizontal comparisons, some comparing a jurisdiction before and after legal change. These invariably show the social advantages of not enforcing noncompetes. States that do not enforce noncompetes have more startups, venture capital, growth, investment in human capital, and patenting. The last finding is crucial since courts often accept the unsupported argument that enforcing noncompetes gives employers incentives to train employees and make other investments in human capital. Enforcing noncompetes also creates social waste of employee talents, as most affected employees are unable to work in their areas of expertise. Economic models of contracts to impede employee mobility are highly responsive to their assumptions, but the dominant approach shows that employers and employees can negotiate efficient allocation of intellectual property on the employee’s departure, even if the employer has no ex ante intellectual property rights. The old employer simply outbids rivals. The time has come for law to join those states refusing to enforce restrictive covenants, and to restrict employer claims that departing employees will disclose trade secrets.