Non-compete Agreements:  Barriers  to  Entry…and  Exit?
Matt Marx, MIT Sloan School of Management
Lee Fleming, Harvard Business School and Institute for Quantitative Social Science

EXECUTIVE SUMMARY
This chapter describes recent research on post-employment covenants not to compete, as well as potential
policy implications of such research. We propose that non-competes are an underappreciated lever forpolicymakers to wield in effecting entrepreneurial outcomes. We review theory and models as well as
qualitative and quantitative evidence from ourselves and others, at three levels of analysis. First, how do
non-competes impact individual careers? Second, why do firms adopt non-compete agreements, and how
do they affect the behavior and performance of firms? Third, what do we know of the regional
implications of non-competes for entrepreneurship, productivity, and other measures? We observe that
non-competes are generally favorable for established firms though less so for firms that are young, small,or not yet established. These benefits to firms appear to be offset by costs to individual workers, who areoften unaware of non-competes when they initially accept an employment offer and end up with reduced
opportunities for employment or entrepreneurship going forward. At the regional level, evidence isthinner but points again to the tension between the interests of established firms and those that do not yet
exist. Ultimately, policymakers’  decisions regarding whether or not to enforce non-competes should be
driven by the extent to which they want to optimize for the preservation of established firms vs. individualcareer flexibility, and the founding and growth of new startups.

I. INTRODUCTION
Given the central role of entrepreneurs in fostering innovation and productivity growth (Schumpeter
1975; Acs and Audretsch 1988), it is no wonder that policymakers seek to spur the founding and growth1

of startup companies. Yet dozens of attempts to recreate the entrepreneurial dynamics of Silicon Valley
have failed, in part due to the direct-subsidy model in which politicians attempt to stimulate a particularsector or  even  “pick  winners”  within  an  industry.  The  ineffectiveness  of  science  parks  (Wallsten  2001)
and other such measures can be traced in part both to the inefficient allocation of capital in the politicalprocess as well as the vagaries of the electoral cycle.
An alternative to the direct-subsidy approach is to instead focus on improving the entrepreneurial climate
by removing barriers to the commercialization of technology and the establishment of new firms. Suchinitiatives typically do not target a particular industry but rather involve policy reforms that facilitate thetransfer of technology, streamline the process of incorporation, and make resources available for
implementation of the business plan to the population of (would-be) entrepreneurs. For example, several
countries have reduced the number of steps required to incorporate. Likewise, the Bayh-Dole Act of 1982
greased the rails for commercializing inventions from U.S. universities, by giving universities clear
property rights and incentives to commercialize. This paper explores a policy issue that has the potential
to influence the entrepreneurial climate, including the ability of would-be entrepreneurs to leave theirjobs, and the capability of small firms to recruit relevant talent.
Once a company is incorporated and the initial opportunity identified, founders must marshal bothfinancial and human resources to grow the business. New ventures rely on an influx of expertise skilled in
the art in order to grow (Haveman and Cohen 1994; Klepper 2001; Gompers, Lerner, and Scharfstein2005); indeed, failed efforts to build biotech clusters can in many cases be traced to the lack of local
scientific personnel (Lerner 2009:113-114). But even if skilled talent exists in a region, startups still facechallenges in attracting key workers due to their uncertain life chances and limited resources. Unless they
are content to recruit talent from universities or from the ranks of the unemployed, startups must attract
workers from existing firms. Thus entrepreneurial regions rely heavily on fluid inter-organizational
mobility of workers.

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If anything, the demise of internal labor markets following the globalization and deregulation of the 1980s
would seem to ease the challenge of staffing startups as workers pursue what have been called“boundaryless  careers”  (Arthur  and  Rousseau  1994),  moving  without friction from firm to firm. To theextent that workers are free to circulate among firms, startups may take advantage of the supply of laborwith relevant skills. As Nobel prize-winning economist Gary Becker observed, “[y]ou  cannot  separate  a  person from his or her knowledge, skills, health, and values the way it is possible to move financial andphysical  assets  while  the  owner  stays  put”  (1963:16).  But it may nonetheless be possible to separate
workers from the use of their skills. This paper focuses on a legal restriction to inter-organizational
mobility: postemployment non-compete agreements (hereafter,  “non-competes”) and their potential
implications at three levels: individual careers, firm performance, and regional economic productivity.
The desirability and impact of non-competes differ for actors across these three levels of analysis;
consequently, it is not straightforward to pick an optimal policy given competing interests. Instead,policymakers should consider the enforceability of such contracts depending on which constituents theyseek to satisfy.
This chapter proceeds as follows. First, in Section II we provide a non-legalistic introduction to andoverview of non-compete agreements, pointing out how they differ from other techniques used to protect
intellectual property. Next, in Sections III-V we describe how non-competes affect individuals, firms, andregions respectively. In doing so, we review the work of several scholars and offer particular detailregarding our own studies, which exploit an inadvertent reversal of non-compete policy in Michigan
during the 1980s to facilitate causal identification of the non-compete effect. Finally, in Section VI weanalyze choices facing policymakers. We do not offer a preferred policy prescription but rather proposethat the decision regarding whether or not to enforce non-competes should be determined by the desire to
optimize for the interests of established firms vs. the founding and growth of new firms as well as
individual  workers’  career  flexibility.

3II. BACKGROUND ON NON-COMPETES
A non-compete is an employment contract in which an employee pledges not to work for a competitive
firm for a period of time after resigning or being terminated. Firms use non-competes to protect theirinterests, including confidential information such as trade secrets and customer identities. Hardly new,non-competes have been used since the fifteenth century. Following the decimation of the European labor
supply by the Bubonic plague, the Ordinance of Labourers made it unlawful not to work in England. Thus
the English judge reviewing the first non-compete infringement Dyer’s  Case of 1414 was less thansympathetic  to  the  plaintiff’s  request  that  his  former  apprentice—a dyer of clothes—be enjoined fromsetting up shop in the same town (contrary to his non-compete employment contract). In fact, the judge
threatened the plaintiff with jail time for having dared to prohibit someone from working (Decker 1993).
The 1711 decision in Mitchel v. Reynolds established the initial precedent for non-competes. Althoughsentiment remained strong against “general” prohibitions on the ability of workers to exercise theirexpertise, the court allowed that  workers  should  have  the  right  to  bargain  over  “particular”  restraints  such  as restricting the practice of their trade in a certain geographic area or for a given length of time (Blake
1960). As such, non-competes incorporated limitations on their scope of expertise, geographic reach, andduration.
Regarding expertise, non-competes typically either list a set of companies at which the employee may notwork  or  defines  a  “field  of  service”  in  which  the  ex-employee may not perform. The disadvantage of theformer approach is that firms unknown to the employer may compete with it in the future. The latterapproach can be difficult to pin down due to vague definitions of a technical field.
Regarding geography, non-competes in fields where competition is circumscribed by distance typicallyspecify the spatial range beyond which competitive activity is sanctioned. In medicine, where competition

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for clients takes place locally, this is frequently defined as a radius around the practice. In technologicalfields, however, a looser scope is adopted—often the entire country or even anywhere in the world.
Given the particular importance of protecting trade secrets in high-tech industries, the geographic
restriction is less salient than the duration of the agreement. A non-compete must spell out the length oftime for which the ex-employee is bound after leaving the firm. Data from a survey of 1,029 members of
the Institute of Electrical and Electronics Engineers (IEEE) reveal that the term of a non-compete is
typically 1 or 2 years though often longer (Marx 2009).

Comparison with other means of protecting intellectual property
If a chief objective of requiring non-compete agreements is to guard against the leakage of trade secrets,
one might reasonably q whether this is not already accomplished by non-disclosure agreements (NDAs).
Although NDAs are employed widely, it can be difficult if not impossible to know whether an exemployee is abiding by the agreement. Moreover, several courts have allowed that ex-employees may“inevitably  disclose”  proprietary  information  to their subsequent employer (Whaley 1999). Thus the only
way firms can fully protect against the leakage of trade secrets and other proprietary information such as
customer lists is to block ex-employees from joining firms where said disclosure could harm thecompany. It is easier to determine whether an ex-employee is working at a particular company than toestablish whether that same employee is misappropriating confidential information.
Non-competes also differ from other forms of intellectual property protection in the way they operate.
Patents, trademarks, and trade secret protection effectively enable inventors to set a monopoly price for
their intellectual property, which would otherwise be available at near-zero cost to consumers given theease of duplication. While such protection creates an incentive to invest in innovation, it also creates a“deadweight loss” for consumers whose willingness to pay is greater than marginal cost but lower thanthe monopoly price and who consequently cannot consume the good (Scotchmer 2004). In the case of5

drug discovery, for example, many patients might benefit from a particular medication if it were free orless expensive but cannot because firms are able to maintain high(er) prices given their patent portfolio.
The deadweight loss is often rationalized ex ante in that the good never would have been invented in thefirst place if not for promise of monopoly pricing. In the case of non-compete agreements, however, thedeadweight loss bears a less direct relationship to the incentive to invest. Most forms of intellectual
property protection restrict access to the output of the innovative process. For example, employees
signing a non-disclosure agreement promise not to divulge specific trade secrets. But by forbidding exemployees to work in the same field, non-compete agreements deny others use not only of the outputs but
the inputs as well: namely, the relevant expertise of those who created the trade secrets. Non-competes
essentially enable firms to set a monopoly price on the skills of ex-employees. (Firms are of course arefree to set a lower price, as when Nortel paid Motorola $11 million to release its COO from his noncompete so that he could become Nortel’s  CEO.  (McMillan 2006)).
The use of non-competes is not tracked by a central authority such as the U.S. Patent & Trademark
Office, as firms are not required to report which employees are subject to non-competes. But multiple
surveys suggest that non-competes are quite common. Garmaise (2009) observed that 70.2% of
Execucomp firms use non-competes with their senior executives, likely a lower bound as firms are notrequired to report use of non-competes in public filings. Kaplan and Stromberg (2003) found that 90% ofventure-capital contracts mandated that their portfolio companies use non-competes. Regarding nonexecutives, the first author found that nearly half the respondents in a survey of IEEE members said they
had been asked to sign a non-compete (Marx 2011a).

Enforceability
Firms are free to write any sort of employment contract, but the enforceability of the contract is anothermatter. In the U.S., unlike the patent system there exists no federal law governing the administration of6

non-competes; instead, policy decisions are left to the states. Most states have elected to sanction the useof non-competes  by  firms,  provided  that  they  pass  a  “reasonableness”  test  primarily  with  regard  to  the  duration of the agreement. Several states however have passed laws restricting the enforceability of noncompetes. Most famously, California has strictly prohibited non-competes since its incorporation as astate  (Gilson  1999)  via  its  Business  and  Professions  Code  Section  16600:  “Except  as  provided  in  thischapter, every contract by which anyone is restrained from engaging in a lawful profession, trade, orbusiness  of  any  kind  is  to  that  extent  void.”
A select number of states have changed their non-compete policies. Most dramatically, Michigan
inadvertently reversed its non-compete policy in 1985 by repealing several antitrust statutes, one of whichcontained a little-noticed  provision  similar  to  California’s  Section  16600  but  which  was  quickly  identified  by practicing lawyers eager to profit from the now-legal enforcement of non-compete litigation.
Michigan’s  inadvertent  repeal  provides  a  “natural  experiment”  that  can  provide  causal  evidence  of  the  impact of non-competes. The  evidence  emerges  from  estimation  of  a  “difference-in-differences”  model,  which sets up a baseline comparison with states that never enforce non-competes, and Michigan, which(seemingly) exogenously changes from prohibiting to allowing enforcement. Without such a naturalexperiment, observational scientists—in  this  case,  those  that  can’t  run  laboratory  experiments,  and  must  rely on after the fact archival datasets—can only report correlations. In the case of non-competes, thispresents a problem because it is hard to separate the success of individual states from the non-compete
enforcement. For example, do engineers emigrate to California because of non-compete enforcement intheir home state? Or are their choices driven by the availability of jobs—or perhaps the weather?
Without a natural experiment (or strong instrumental variable, see Samila and Sorenson 2011), it becomesvery difficult to isolate causal effects. Research published prior to the discovery of the Michigan policy
reversal was appropriately measured regarding causal claims:  “We  have  no  direct  evidence  that  the  California effect on mobility is due to the absence of enforceable noncompete agreements. As a result wecannot assess the role that other factors (such as local culture) may play in sustaining high rates of7

employee  turnover”  (Fallick  et  al.  2006:481).1 Variation in enforcement across time and space create anempirical opportunity to assess the impact of non-competes on individuals, firms, and regions. As argued
above, however, correlation does not imply causality, and finding variation in policies and outcomes overtime must be interpreted with caution.

III. HOW NON-COMPETES AFFECT INDIVIDUAL CAREERS
Perhaps the most robust finding regarding non-competes is that they bind employees to their employers.
Although this may seem obvious, skeptics have questioned whether non-competes have any effect at all.
Kim and Marschke (1993) cite legal literature stating that courts will be reluctant to enforce non-competeagreements given the potential for hardship on workers. Wood (2000) proposes that regions can develop
alternate mechanisms for mobility and spillovers.
Others have argued and provided evidence, however, that non-competes do matter. The first evidence
regarding mobility was supplied by Fallick, Fleischman, and Rebitzer (2006), who analyzed Current
Population Survey data. They modeled cross-sectional variation in job-hopping according to regional
enforcement of non-competes. They found an effect only in the California computer industry, which theyargued resulted from the advantages of job-hopping  within  a  modular  industry  (an  employee’s  skills  are  more easily transferred in such an industry). Garmaise (2009) found similar effects among the executivesof publicly-held companies; because non-competes restrict the market for the most relevant outside job
opportunities, firms are under less pressure to pay competitive wages. Garmaise also finds that executives
working under stronger enforcement regimes move less and have longer tenures. They receive lesscompensation and less increase in compensation when they move. In addition, compensation is moresalary based.
1

Other states that have altered their non-compete policies—albeit deliberately—include Texas (1994), Florida(1996), Louisiana (2001, 2004, and 2008), New York (2008), Idaho (2008), Oregon (2008), and Georgia (2010).
China recently added a requirement (PRC Labor Contract Law of 1 January 2008, Article 23) that firms enforcing
non-competes against ex-employees compensate them during the term of the agreement.

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Along with our colleague Debbie Strumsky, we took advantage  of  Michigan’s  inadvertent  policy  reversal,  and found similar results among patenting inventors (Marx, Strumsky, and Fleming 2009). Our analysis
proceeded in  two  steps  using  the  “Michigan  experiment.” The setup of a natural experiment is not unlikea  clinical  trial,  where  a  “treatment”  group  of  subjects  are  administered  a  new  drug  while  a  “control”  group  receives a placebo (i.e., no treatment). Then the results for the two groups are compared. The control
group is essential because the treatment group might get better (or worse) for reasons unrelated to the new
drug. Thus in our examination of whether the apparently-inadvertent Michigan policy reversal affected
outcomes, we also use a treatment and a control group. For example, when assessing whether noncompetes impact interorganizational mobility, we specify  a  “treatment”  group  of  inventors  who  filed  patents in Michigan prior to the reform. (Including those whose first patent was after the reform would
not enable us to perform the before-and-after test.) For our control group, we include those who had filed
patents  outside  of  Michigan  prior  to  Michigan’s  reform.  Again, if we did not have a control group wemight incorrectly attribute rising (or falling) mobility within Michigan to the policy reversal when in fact
mobility was rising (falling) everywhere. To  ensure  that  the  control  group’s  conditions  are  as  similar  as  possible to those of the treatment group, we limit the states represented in the control group to those statesthat had placed restrictions on the enforcement of non-competes (as had Michigan) and moreover
continued not to enforce non-competes (these are Alaska, California, Nevada, Washington, Oklahoma,
Montana, North Dakota, Minnesota, West Virginia, and Connecticut). Thus we are able to compare themobility patterns of two groups of patenting inventors starting in states where non-competes were
unenforceable, and then observe whether there is a shift in their relative mobility once Michigan begins toenforce these contracts.
Note that this approach assumes that the policy change was unexpected, which we believe to be true fortwo reasons. First, dozens of pages of legislative analysis of the Michigan Antitrust Reform Act(hereafter,  “MARA”)  (Bullard  1983a;;  Bullard  1983b) fail to mention non-competes although theyexhaustively document other aspects of the antitrust reform; we  could  not  locate  any  reference  to  “non-9competes”,  “non-competition  agreements”,  “post-employment  restraints”  or  the  like.  (Again,  the  reversal  was due to a previous prohibition having been repealed, where the prohibition was but one section of alarger bill.) Said an employment lawyer active at the time and author of a Michigan Bar Journal article
highlighting  the  mistake,  Louis  Rabaut  (2006),  “There  wasn’t  an  effort  to  repeal  non-competes. We
backed our way into it. We were not even thinking about non-compete  language.”
Given the inadvertent nature of the repeal, one might wonder whether and how firms became aware of
their newfound capability to enforce non-competes. Multiple articles appeared in the Michigan Bar
Journal later in 1985, specifically citing the change in the law and communicating (to practicing lawyers)
the possibility of prosecution and other billable legal work (see for example Sikkel and Rabaut 1985).
Perhaps it is not surprising that practicing lawyers would scour the text of repealed bills to find any
unanticipated consequences of new legislation. Moreover, one of the authors of these Michigan Bar
Journal articles (Sikkel 2006) indicated  that  “All of a sudden the lawyers saw no proscription of noncompetes. We got active and the legislature had to go back and clarify the law.” Importantly, the 1987
“clarification”  of  the  non-compete law did not reinstate the prior ban; rather, it merely (retroactively)
stipulated  that  a  “reasonableness  test”  be  applied—a standard common to other states that also allow
enforceable non-competes.
For  all  of  these  reasons,  we  believe  that  the  “Michigan  experiment”  is  a  useful  laboratory  for  evaluating  the impact of non-compete agreements on a variety of outcomes. Other states including Texas, Florida,
and Louisiana (Garmaise 2009) have shifted their enforcement policies somewhat, but Michigan is the
only state we know of to have inadvertently effected a wholesale change in its enforcement practices. Our
first application of the Michigan experiment was to exploit synthetic matching methods pioneered byAlberto Abadie and colleagues (Abadie, Diamdn, and Hainmueller 2007) to inspect visually whether therate of job-hopping in Michigan had changed noticeably vs. the control group. In this approach, one
constructs  a  “synthetic  Michigan”  from  a  weighted  average  of  the  control  states—again, those that
continued not to enforce non-competes. The hope is that, prior to the policy reversal or treatment, the10

trend of interorganizational mobility in synthetic Michigan approximates that of the actual Michigan
reasonably closely. Indeed, Figure 1 shows that a weighted average of the other non-enforcing statesmimics  Michigan’s  trend  of  worker  mobility  prior to the MARA reform of 1985. If there were no impactof the non-compete policy change,  we  would  expect  Michigan’s  mobility  rate  to  continue  to  match  the  weighted average rather closely. Following  MARA,  however,  Michigan’s  mobility  rate  drops  relative  to  the ”synthetic”  Michigan, suggesting that the inadvertent imposition of non-compete enforcement indeed
had the effect of binding employees to their employers.
In a second step, we used statistical methods to analyze trends more precisely and also to obtain a sense of
the magnitude of the effect of non-competes on job mobility. We found that, relative to workers in statesthat continued not to enforce non-competes, the mobility of Michigan workers dropped by 8.1%
following MARA and the repeal of the non-compete ban. Moreover, Michigan workers with highly
specialized skills were twice as likely to remain loyal to their employers following the implementation of
non-compete enforceability. This result is likely due to the difficulty of those with specialized skills
finding work within their industry, as those opportunities are explicitly foreclosed by non-competeagreements. These results were robust to a wide variety of controls, including working in the auto
industry (troubled and a big part of the Michigan economy around MARA).
In follow-on work, the first author conducted 52 interviews randomly sampled from the population ofpatent holders in the automatic speech recognition industry (Marx 2011a). Whereas previous studies
relied on measuring the overall impact of policy changes but without knowing whether individuals signed
a non-compete agreement, the interviews from this field study provide a full work history for each
informant along with an indicator for whether a particular employer required a non-compete. These data
reveal that one-quarter of those who signed non-competes and then changed jobs also changed
industries—leaving their field of expertise to take a  “career  detour.”  By comparison, those who did notsign non-competes were considerably less likely to change industries when they changed jobs. Those who
took career detours reported reduced compensation, atrophy of their skills, and estrangement from their11professional networks. One interview with the technical co-founder of a speech recognition startup
revealed why he left the industry after being fired by his co-founder (who assumed the CEO role)2: “I  had  a very strong anti-competition  agreement  with  <former  employer>…so  for  two  years  I  couldn’t  have  gotten involved in another speech recognition company in any case. The employees were very muchaware of these non-competition agreements. And many of them, certainly the more sophisticated ones, ona  regular  basis  would  sort  of  do  a  gut  check  and  say,  ‘Well,  if  I’m  ever  gonna  leave,  what  would  I  do  for  two years if I couldn’t  do  speech  recognition?’”  Another engineer who left the industry after leaving her
job due to a non-compete said that she “intentionally  looked  for  general-purpose programming, and I
took  a  substantial  pay  cut  to  go  there.”
Importantly, non-competes function differently from non-disclosure agreements which govern only
information transmitted to the worker while employed at the firm. Ex-employees are free to share any
industry-related information they had before joining the firm. Non-competes however assume jurisdiction
not only over training and skills given the employee while at the firm but also any prior relevant skills or
experience of the worker whether  these  were  obtained  through  prior  employment  or  via  the  worker’s  own  education. This distinction was cast in sharp relief by a speech recognition professional who was reduced
to performing data-entry tasks after leaving her job because of the non-compete she had signed:  “I’ve  been in this industry for 20 years. I have a PhD in the field. I walked in the door with an enormous
amount of experience, and while I worked there for a year in a half they added maybe, what, 2% to that?
And  now  they  want  to  prevent  me  from  working  in  speech  and  using  any  of  what  I  know?”
Important to note is that none of the interviewees who took a career detour or other action was actually
sued by their ex-employer. Nor did any of them appear in a court of law. Rather, they acted based on the
expectation of what might happen if they refused to act in accordance with the employment agreement2

Non-compete agreements are generally written to be enforceable regardless of the reason for separation from thefirm. While we do not know of any data that would show how likely a court is to enforce a non-compete forsomeone who has been involuntarily terminated, the practice is not generally illegal. As one example, when David
Neeleman was fired from Southwest Airlines, he abided by the five-year non-compete he had signed as aprecondition of Southwest acquiring his prior firm. He worked outside the United States during that time, returning
exactly five years later to launch JetBlue (Wells 2002).

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they  had  signed.  This  “chilling  effect”,  independent  of  what  a  judge  or  court  might  decide,  is  key  to  understanding how non-competes  affect  individual  workers’  job  mobility  decisions.  This  may  be  one  reason why we and other scholars have found non-competes to have such a strong impact, despite thespeculation of legal scholars that judges would be reluctant to enforce such contracts.
Moreover, we have some reason to believe that the negative consequences of non-competes for individualcareers are not inadvertent byproducts of a desire to protect trade secrets but rather that firms strategicallymanage the process of obtaining non-compete signatures. This suggests that firms are aware of thesedeleterious outcomes. In the IEEE survey referenced above, barely 3 in 10 workers reported that they
were told about the non-compete in their job offer. In nearly 70% of cases, the worker was asked to sign
the non-compete after accepting the offer—and, consequently, after having turned down (all) other offers.
Nearly half the time, the non-compete was not presented to employees until or after the first day at work.
Related one employee,  “I  never  received  any  information  ahead  of  time  before  showing  up  to  my  first  day. And then it was the first day when I had all the paperwork in front of me: health insurance, 401(k),and the non-compete.  It  was  either  ‘sign  it  and  work  here  or  don’t  sign  it  and  don’t  work  here.’” An
independent contractor who found that the non-competes he was asked to sign routinely ran longer thanhis consulting engagements related a similar experience:  “In  the  11th hour they just try to bully me into
signing  it.”
While we know a considerable amount about how non-competes affect the careers of individual workers,
several open questions remain. Given that firms can price-discriminate, one might imagine that those withgreater  wealth  might  be  able  to  “buy  out”  their  non-compete and thus be less affected either in theirmobility or wage structure. Moreover, unlike those who rely on steady income to make ends meet,
wealthy  individuals  might  be  able  to  “wait  out”  the  duration  of  a  non-compete by placing themselves in
effect on an involuntary sabbatical. One interviewee in the above study, although he was eager to start a
new company following the acquisition of his former firm—which he had founded—was blocked fromdoing so for one year. He instead took an unpaid position as a visiting researcher at a local university

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while waiting for the non-compete to expire; however, he was only able to do so given the liquidity
provided him by the recent acquisition. As another example, Microsoft executive Vic Gundotra chose notto contest his non-compete when leaving for Google. Instead, he decided to remain unemployed for one
year,  as  described  in  Google’s  official  statement:  “Mr.  Gundotra  has  resigned  from  Microsoft  and  entered  into an agreement with Google. Though the financial arrangements are confidential, he will not be a
Google employee for one year and intends to spend that time on philanthropic pursuits. We are uncertain
what precise role he will play when he begins working for Google, but he has a broad range of skills andexperience which we believe will be valuable to Google”  (Romano  2006). If so, then non-competes may
exacerbate social stratification as those without substantial financial means are limited in theirprofessional mobility.
Further, it is possible that non-compete enforcement influences the wiring of professional networks.
Although large-sample systematic evidence on this point is still to be assembled, accounts from field data
indicate that non-competes complicate the maintenance of interorganizational ties. Recounted one
engineer who worked at a firm that strictly enforced non-competes against ex-employees,  “People  would  quit  and  not  say  where  they  were  going,  so  I  lost  touch  with  a  lot  of  colleagues  in  my  field.” Indeed,
workers reported that they intentionally withdrew from professional contacts in order that they mightremain undetected.  “We  were  hiding  very  low.    [Current  employer]  had  an  automated  – something whereyou  could  dial  people’s  names,  and  we  were  not  in  that  system  because  they  didn’t  want  [former  employer] to find out who was actually working at [current employer]. I think you could dial XXX andthen our names, and you could get to us. And if we ran into people we knew who were still at [former
employer],  we’d  like  hem  and  haw  and  say,  ‘well,  I  don’t  really  want  to  tell  you  where  I’m  working  right  now’.”
As workers become more aware of the consequences of non-competes, it is possible that they will be lesseager to invest in specialized skills they may not be able to utilize after changing jobs. They may also
invest less effort overall, as they see less reward for their effort (see Amir and Lobel 2010 for

14

experimental results on this question). One way to study this would be to study careers inside and outsideof Michigan, before and after the MARA legislative change. These individual level choices could impact
regional innovation dynamics, for example, if highly motivated – or specialized expert - engineers weremore likely to successfully invent and commercialize breakthroughs, then regions with more hardworking experts would be more innovative.
A couple of important caveats are in order. First, it is possible that some workers bargain explicitly over
the terms of non-compete agreements, perhaps seeking increased compensation in return for entering intoa restrictive covenant. While in the aforementioned interviews not one interviewee described suchbargaining—instead, they often related having been asked to sign long after they accepted their job
offer—it remains an open question whether the signing of non-competes bring bargaining opportunities toworkers. Second, the results of the fieldwork and Michigan experiment should be considered in the caseof high-technology industries. Non-competes may be used in non-technical industries—indeed,
Garmaise’s  use  of  the  Execucomp  dataset  indicates  that  they  are—but we have less insight into the
dynamics of such employment contracts where technical trade-secret protection is less of a concern.

IV. FIRM-LEVEL EFFECTS OF NON-COMPETES
The canonical motivation for firms to use non-competes is to protect trade secrets. But as is evident fromthe above discussion regarding their impact on individuals, firms benefit from non-competes in otherways as well. Easier retention of employees not only protects trade secrets but provides other advantages.
First, the firm avoids costly turnover and recruiting expenses. Second, competitors are blocked fromaccessing valuable talent (even when not considering proprietary information). Both of these help tosustain  the  firm’s  competitive  position.  
Non-competes  assist  in  preserving  the  firm’s  competitive  position  by  discouraging  entry.  As  Stuart  and  Sorenson (2003) showed in the biotech industry, the enforcement of non-competes discouraged the15founding of new firms following liquidity events such as acquisitions or IPOs, which should enable senior
executives and key technical personnel to leave and start a new company. Given that the most important
assets of technology companies can be their employees, it follows that acquisitions are more likely tooccur when non-compete agreements are sanctioned. The second author, in collaboration with Ken
Younge and Tony Tong, uses the Michigan experiment to demonstrate a significant increase in thelikelihood of Michigan firms being acquired after non-compete enforcement strengthened (Younge, Tong,and Fleming 2011). Consistent with a model where acquiring firms hope to retain human capitalfollowing acquisition, they demonstrate positive interactions for firms in industries with greater humancapital and competition and a negative interaction for firms in industries with strong IP protection (thelatter  argument  depending  on  the  availability  of  other  mechanisms  to  protect  the  firm’s  intellectual  capital). Also consistent with this model, and against concerns that the failing Michigan economy drives
the results, they also find a positive interaction with return on assets. (To date, all of the research relying
on the Michigan experiment has controlled explicitly for the auto industry, and this control has only
strengthened the non-compete results.) Current research aims to understand the influence of noncompetes on the prices for these acquisitions.
Moreover, non-competes may favor large firms over smaller ones due to the asymmetric costs of the legal
system. Lerner  (1995)  documents  that  smaller  firms  file  patents  “in  the  shadow”  of  competitors,  likely  due to the threat of expensive litigation. While a $500,000 lawsuit might be a small amount for a
multinational conglomerate, the same (or threat of the same) could substantially deplete the resources of astartup. The first author found that inventors who changed jobs after Michigan began enforcing noncompetes were considerably more likely to join larger firms (Marx 2011b). Thus non-competes not only
serve to retain employees; they may tilt the recruiting playing field in favor of larger firms.
Although most of the empirical predictions on non-competes have followed from informal models,Garmaise (2009) develops two formal (and competing) models of firm and manager interaction. In thefirst, firms can invest in the human capital of their employees. In the second, managers can also invest in

16

their own human capital. Garmaise then models a variety of outcomes under weak or strong non-compete
enforcement regimes, and derives sometimes conflicting predictions from the two models. To test his
models, Garmaise uses Execucomp data on the executives of publicly traded firms, and an increase in
enforcement in Florida in 1996 and a decrease in enforcement in Louisiana in 2002 and Texas in 1994..
While his data are time-series and cross-sectional variation, he finds a consistent interaction effectbetween the strength of enforcement and the amount of industry competition in a state. His (to us quite
convincing) argument is that non-competes will matter more in states with greater competition.
Garmaise’s  second  model,  where  both  firms  and  employees  can  invest  in  human  capital  development,  is  more successful in predicting a variety of outcomes. His empirical work confirms, not surprisingly, thatfirms are more likely to invest in the human capital of their employees under strong enforcement, and asalso might be expected, managers are less likely to personally invest. Stronger enforcement also leads tolower compensation and less mobility. Correspondingly, executive tenure is longer and increases incompensation and rank are less within strong enforcement regions. Executives in enforcing regions
receive a greater portion of their compensation in salary, and they are less likely to move up in rank when
they change firms. There is no significant effect either way for the impact of non-compete enforcement
upon profitability, but firms within regions that do not enforce appear to benefit more from the arrival of a
new CEO.
One might imagine that the above benefits of non-competes would lead firms to invest more aggressively
in innovation. However, Garmaise (2009) found the opposite: that R&D investment among publiclytraded firms was lower, not higher, where non-competes are enforceable. His explanation was that
employees have less personal incentive to invest in their human capital in regions that enforce noncompetes. In turn, firms were less likely to invest in high skill production processes, of which R&D andheavy capital expenditure investments are prime examples. This puzzling result raises a number ofunanswered questions regarding firm-level outcomes of non-competes. Do non-competes discourage
employee  effort,  as  Motta  and  Roende’s  (2002) model suggests? Do non-competes affect the risk-

17aversion of the firm, and if so, how? Moreover, is collaboration within the firm – and even across firms shaped by the use of such contracts (Fleming, King, and Juda 2007)?
Of course, the flip side of more easily being able to retain employees is that it becomes more difficult forfirms to recruit talent away from competitors. Our sense is that prospect theory (Tversky and Kahneman
1974) applies here: firms think more about the possible losses (of talent or trade secrets) than they doabout the potential for capitalizing on the absence of non-competes. One might consequently speculatethat weaker firms may rely more heavily upon non-competes to retain employees than do more attractive
employers. Strong firms might seek to capitalize on this, by trying to attract the best engineers by not
requiring their hires to sign non-competes, even in regions that allow enforcement.
There is likely variation to be explored in the use of non-competes by firms, as most studies have reliedon policy changes but lack data regarding which firms use non-competes and which do not. Given that
non-competes favor large firms, is it the case that large firms use them more often? Even if small firms
use non-competes, are there differences in the likelihood to prosecute? These questions await the buildingof  a  dataset  that  records  individual  firms’  usage  of  non-competes and other related human resource
policies. Of course, firms may be less than forthcoming regarding their use of non-competes, so it isunclear what the response rate or reliability of such a survey might be.

V. REGIONAL IMPLICATIONS OF NON-COMPETE ENFORCEMENT
Gilson  (1999)  was  the  first  to  suggest  that  California’s  long-standing ban on non-competes  as  a  “causal
antecedent”  for  Silicon  Valley’s  rise  to  entrepreneurial  prominence. Subsequent work has identified
regional implications of the above findings. Samila and Sorenson (2011) are the first to directly measureregional outcome variables. They measure the effect of a marginal dollar of venture capital investment on
patent filings, new business establishments, and job creation. They address endogeneity concerns by
instrumenting with national average university endowment returns, multiplied by the number of limited18

partners in a region prior to the study period. Their argument for the validity of the instrument is that fora fixed allocation of investments across asset classes, the amount of capital available to invest shouldchange exogenously to the region. Their results indicate that states that enforce non-competes experiencea lower return on venture capital investment than states which proscribe enforcement. The results remainrobust when excluding Silicon Valley and California. Samila and Sorenson point out that their study only
captures the impact of venture capital, which is but one component of R&D investment. Moreover,venture capital may seem less concerned with creating large numbers of jobs and firms and more withcreating wealth in a small number  of  firms.  That  said,  these  “early  indicators”  regarding  regional  productivity do not appear to support the enforcement of non-competes. But other measures including
total factor productivity have yet to be examined.
Another regional measure of interest addresses the canonical reason for using non-competes: to counterthe diffusion of knowledge. In joint work with Jasjit Singh, the first author finds that the diffusion ofknowledge is muted where non-competes are enforceable (Singh and Marx 2011; Beleznon and
Schankerman 2010 report similar results for the subset of patents granted to universities). Given thattechnological spillovers  are  one  of  Marshall’s  (1920) three preconditions for agglomeration economies,
this result suggests that regions where non-competes are allowed may not experience the same strength of
positive externalities so important to the emergence of clusters.
Likewise,  regarding  the  second  of  Marshall’s  mechanisms,  labor  pooling,  non-competes discourage laborpooling in two ways. First, as described above, by tying workers to their firms non-competes attenuate theavailability of relevant skilled labor (Marx, Strumsky, and Fleming 2009). Second, given the career
hazards imposed by non-competes, with our colleague Jasjit Singh we find evidence  of  a  “brain  drain”  from enforcing states to non-enforcing states (Marx, Singh, and Fleming 2011). We establish this result
both cross-sectionally for all U.S. states from 1975-2005 and using the Michigan experiment. There is a
net migration from states that enforce non-competes to those that do not, and we see increased emigrationfrom Michigan to other states that continued not to enforce non-competes following the MARA reform.

19

Of course one might wonder whether the exodus from Michigan is due to the troubles of the auto
industry, or the growth of Silicon Valley, but the effect is robust to controlling for automotive patents or
excluding moves to California. Moreover, we do not see the same migration pattern for employees who
are transferred to a new state but keep the same job (as we would not expect these moves to be governedby non-competes).  Performing  a  “placebo  test”  by  pretending  that  the  Michigan  reform  happened  in  other  states such as Ohio and Pennsylvania fails to recreate the result as well.
Moreover, and as depicted in Panel B of Table 1, the brain drain appears to be more pronounced among
the most productive and collaborative knowledge workers. (As a baseline, Panel A provides univariate
statistics for all inventors.) Those with an above-average number of citations per patent were more likely
to emigrate from Michigan than from other non-enforcing states, as compared with those with a lower
citations-per-patent ratio. Moreover, when looking at “degree” (number of co-inventors) one notices not
only that more collaborative inventors are more likely to emigrate from Michigan following the
introduction of non-competes, but that the same event actually kept less collaborative inventors inMichigan.
Thus non-competes are responsible not only for a general exodus of talent but are driving away some of
the best and brightest—understandable given their higher opportunity cost of being captive to a single
firm. To the extent that these effects play out over time,  the  “brain  drain”  effects  may  rebalance  the  distribution of technical talent across regions. Indeed, Figure 2 shows that the proportion of patenting
inventors in states that do not enforce non-competes has grown steadily since 1975. Even moreinterestingly—since the number of inventors is surely a function of industrial shifts over the time period
studied--the extent of redistribution is increasing in the productivity of the inventor. As in our statisticalanalysis, those with above-median productivity are more likely to be found in non-enforcing states, andthe effect is amplified further for those in the top 10% and top 5% of the distribution. Although manyfactors may contribute to this relocation of talent, our research suggests that non-competes play animportant role.

20VI. IMPLICATIONS FOR POLICY
Determining the optimal enforcement policy for non-competes is far from a simple matter. Were it so,state statutes would long since have converged. Even as recently as 2008, various states have taken
conflicting paths regarding the enforceability of non-compete agreements. Idaho (Id. SB1393) andLouisiana (La. R.S. 23:921) extended the ability of firms to enforce non-competes, while Oregon (Or.
SB248) and New York (Ny. S02393) restricted their ability to do so. To be sure, the deliberation of thesereforms preceded much of the recently-published work on non-competes and thus could not be informedby all of the above findings. But even given robust research results, policy determination is far fromstraightforward.
It is perhaps best to start by stating what we do not know. Neither we nor other scholars purport to have
performed a full welfare analysis that yields a definitive answer regarding whether non-compete
enforcement is a net positive or negative. Rather, our aim in this section is to summarize tensions andconsiderations for policymakers who are evaluating how to handle non-competes within their jurisdiction.
Important to keep in mind is that a one-size-fits-all approach need not be required; rather, different
policies may be adopted for different industries. For example, most lawyers are exempt from noncompetes. Some states including Arizona and Illinois exempt broadcasters from postemployment
restraints,and several states exempt physicians.
Incumbents vs. Entrants. A fundamental tension exists between firms that already exist and those that donot. Established firms understandably seek enforceable non-compete agreements in order to protect theirinterests: guarding trade secrets, retaining employees, paying lower wages, and stalling new entrants.
Moreover, large firms may be able to sidestep non-compete infringement when hiring from within theindustry  by  placing  such  employees  in  a  “holding  tank”—giving them a job in a different division for theterm of the contract. Sustaining existing firms—whether via subsidy or by legal protection—may have the21unattractive externality of discouraging entrepreneurial activity. Entry is less likely to occur given noncompetes because would-be founders find it more difficult to start companies in the same industry.
Moreover, even once founded it is more difficult for nascent ventures to attract talent from companies thatuse non-competes because they are less able to reliably promise a robust defense against a lawsuit fromthe former employer. Thus policymakers whose aim is a dynamic entrepreneurial ecosystem may be lesssympathetic to non-competes, whereas those interested in sustaining existing firms in their region will
likely look upon such contracts more favorably.
Locus of economic experimentation. In his seminal work, Hirschman (1970) observed that customers
generally have three options when they are dissatisfied with the output of a firm. First, they may simply
exit. Second, they may voice their objections in hopes of effecting change. Third, they may remain loyal
despite their dissatisfaction. Employees of a firm have an analogous set of options. But as this article
describes, non-compete agreements make the exit option less attractive because outside employment or
entrepreneurial opportunities are constrained to those that are not competitive with the current employer.
(Moreover, as highlighted above, the inability to reallocate to local opportunities may lead workers to
relocate outside the region.3) The performance of any economy relies in part on its ability to reallocate
factors of production according to supply and demand; arguably, non-competes introduce friction into thereallocation process across firms. Hence, the value of non-compete enforcement for a particular region orindustry may depend critically on whether economic experimentation generally occurs within firms vs.
across firms. In industries with large capital requirements and long development cycles, it may beefficient to allow firms more control over human capital so that the firm can take greater risks withoutworrying about employees leaving following failed initiatives. Conversely, in settings where a single firm
more often represents a single experiment, it may be advantageous to promote greater mobility so thatworkers can reallocate themselves to more promising firms (as founders/entrepreneurs may have non-3

We should note that anecdotes abound of headhunters and hiring managers specifically telling potential hires inenforcing states that joining this company will bring them to a state where they no longer have to worry about noncompetes.

22pecuniary reasons to perpetuate a failing firm). Although research has not established this point
definitively, it may be the case that unrestrained mobility of workers accelerates the  “weeding  out”  of  weak firms as talent is reallocated to stronger ones.
Bargaining and consideration. In theory, the option to include a non-compete as part of an employment
contract should expand the space of possible contracting outcomes. Bargaining over non-compete terms
should result in the employee being compensated for accepting a limit on future employment or
entrepreneurship opportunities. As indicated by the IEEE survey, however, it is the exception not the rulethat potential hires learn of the request for a non-compete before accepting their job offer. Thus it appears
that only a minority of workers are able to engage in such bargaining. Indeed, fewer than one in ten IEEEsurvey respondents who signed a non-compete reviewed the contract with a lawyer, nearly half of them
reporting that they were placed under time pressure to agree or told that the non-compete was nonnegotiable. Oregon recently stipulated that non-compete agreements must be presented with the job offer(Or. SB248), but it is the only U.S. state to have such a requirement. When policymakers adopt suchprovisions, they help to ensure that bargaining takes place and ameliorate the aforementioned negative
consequences for workers.
Intellectual Property Protection Alternatives. Non-competes are ostensibly designed to protect against themisappropriation of trade secrets, an aim likely to be supported by many policymakers. While nondisclosure agreements are widely used, it can be difficult if not impossible to know whether an exemployee is complying with the NDA. A non-compete gives the ex-employer at least some peace of mind
that the ex-employee is not working somewhere that said disclosure would be damaging to the firm. Yet,as illuminated by the work of several scholars, non-competes carry several externalities including the
restriction of career flexibility for workers and  are  thus  in  some  sense  a  “blunt  instrument”  for  accomplishing the goal of protecting trade secrets. Hence, deciding to allow non-competes in order toafford firms greater protection over confidential information must be viewed in light of the full set ofcosts and benefits. In industries where intellectual property protection via the patent or trademark system23

is less reliable (for example, software), trade secrets may be more valuable and non-competes may
consequently be more important.4
We anticipate that non-competes will continue to be a controversial issue. The several benefits toincumbents seem in opposition to the interests of new entrants and, to a large extent, workers (althoughmeasures that promote open bargaining may help to ameliorate such concerns). Ultimately, the optimal
non-compete policy will involve a delicate balance among these interests according to the needs of aparticular region or industry.
For those who seek to spur entrepreneurial activity, restricting the use of non-competes may be a lever tothat end. Without the fear of being sued by an ex-employer simply for founding or joining a startup in asimilar field, executives and engineers seeking to commercialize ideas rejected by their firms (Klepper
and Thompson 2010) may be more willing to strike out on their own given the more favorable
entrepreneurial climate. That said, an effort toward looser non-compete enforcement may result inobjections from established firms (whether large or small), which may prove adept at organizing to lobby
policymakers and influence voters.5 It  is  less  clear  who  might  advocate  for  “unborn”  firms—perhaps
venture capital associations.
More broadly, the question of non-compete enforcement raises the larger issue regarding the proper limits
of intellectual property enforcement and balancing the incentives for inventors against the benefits ofcumulative innovation and rapid diffusion. As one example, the American Industrial Revolution arguably
would have been delayed if Samuel Slater had not violated  what  amounted  to  a  “national non-compete”  4Although beyond the scope of this article, policymakers may also want to explore mechanisms for protecting trade
secrets that are at once more reliable than non-disclosure agreements and less impactful on workers than are noncompetes. One possibility is that  adopted  in  the  settlement  of  IBM’s  lawsuit  to  block  ex-employee MarkPapermaster from joining Apple. The term of Papermaster’s  non-compete was reduced in exchange for his
agreement to certify in writing at three-month intervals that he had abided by his non-disclosure agreement. In thisway,  IBM’s  trade  secrets  were  protected  without  blocking  Papermaster  from  taking  a  new  job  (Elmer-Dewitt 2009).
5
In the summer of 2010, Georgia employers pooled funds and hired a public relations firm to urge passage of aconstitutional  amendment  worded  as  follows:  “Shall  the  Constitution  of  Georgia  be  amended  so  as  to  make  Georgia  more  economically  competitive  by  authorizing  legislation  to  uphold  reasonable  competitive  agreements?”  (Jones  2010). Despite the several deleterious consequences of non-competes for individual workers detailed above, theamendment passed with 68% of the popular vote.

24when he illegally departed England with his knowledge of the Arkwright spinning machine. Englandcoupled an aggressive policy of recruiting skilled labor—by granting national monopolies to theintroducers of pirated technology—with strict restrictions that forbade skilled artisans from leaving thecountry (Ben-Atar 2004). Slater disguised himself as an unskilled farm boy and slipped past emigration
controllers in 1789 on his voyage to Pawtucket RI, where he would found the Slater Mill along theBlackstone River.
Although we do not wish to imply that entrepreneurship is merely a zero-sum game versus the interests ofincumbents, myriad studies document that founders typically exploit ideas they came across in theirprevious employer (Anton and Yao 1995; Bhide 2000; Klepper and Thompson 2010). Consequently,
many entrepreneurs start firms in similar fields to those of their ex-employer, whether or not their activity
is officially sanctioned. To the extent that non-competes are enforced strictly, the bulk of entrepreneurial
activity will likely be composed of three types: 1) university spinouts, where non-competes are not used
2) ex-employees working in very different fields that do not infringe upon their non-competes 3)
sanctioned, (perhaps) partially-owned subsidiaries of incumbent firms. Thus the non-compete
enforcement decision faced by policymakers can affect not only the rate but also the direction ofentrepreneurial activity. Local policymakers are in the best position to judge the level of non-compete
enforcement to address the economic objectives suitable for their region.

25

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Figure 1: Annual Patenting Rates of U.S. Inventors with at Least One Patent Prior to MARA ina Non-enforcing State.

Yearly moves/patents for Michigan and other non-compete states

.04

.06

.08

.1

.12

Includes all inventors whose first application predates MARA (before 1986)

1975

1980

1985

year

Not_Michigan
Synthetic_Michigan

1990

1995

2000

Michigan

Notes:	
  “Synthetic	
  Michigan”	
  represents predictions of patenting in post-MARA Michigan, based on aweighted average of pre-MARA patenting in other non-enforcing states. MARA passed in 1985.

29

Table 1: Domestic emigration from Michigan vs. baseline states that do not enforce non-competes.
Panel A: Comparison for all inventors.

pre-MARA post-MARA relative risk
Michigan
0.31%
0.36%
1.187
non-Michigan
0.26%
0.23%
0.899
Michigan % increase over non-Michigan
32.0%

Panel B: Comparison for highly productive and more collaborative inventors.
CITATIONS PER PATENT
median and below
pre-MARA post-MARA relative risk
Michigan
0.30%
0.36%
1.175
non-Michigan
0.27%
0.25%
0.934
Michigan % increase over non-Michigan
25.9%

above medianpre-MARA post-MARA relative risk
Michigan
0.31%
0.38%
1.221
non-Michigan
0.25%
0.20%
0.787
Michigan % increase over non-Michigan
55.1%

DEGREEnot included in LNC
pre-MARA post-MARA odds ratio
Michigan
0.39%
0.30%
0.753
non-Michigan
0.28%
0.23%
0.844
Michigan % increase over non-Michigan -10.8%

member of LNC
pre-MARA post-MARA odds ratio
Michigan
0.22%
0.46%
2.059
non-Michigan
0.24%
0.23%
0.958
Michigan % increase over non-Michigan
114.8%

Notes: First, the comparison is done for inventors with an above-median number of citations per patent vs.
those at or below the median. Second, the comparison is done for with an above-median number of coauthors
vs. those at or below the median. N= 210,151.

30

Figure 2: Percentage of U.S. inventors residing in a state that does not enforce non-competeagreements.

Notes: The solid black line represents all inventors. The dashed blue line represents inventors with
an above-average number of citations. The dashed red line and dot-dashed yellow line represent
inventors in the top 10% and top 5% of patenting, respectively.

31