Optimal Regulation of Noncompete Contracts

Abstract

I study regulation of noncompete employment contracts, assessing the trade‐off between restricting worker mobility and encouraging firm investment. I develop an on‐the‐job search model in which firms and workers sign dynamic wage contracts with noncompete clauses and firms invest in their workers' general human capital. Employers use noncompete clauses to enforce buyout payments when their workers depart, ultimately extracting rent from future employers. This rent extraction is socially excessive, and restrictions on these clauses can improve efficiency. The optimal regulation policy is characterized. In an application to the managerial labor market using a novel contract data set, I find the optimal policy to be quantitatively close to a ban.