Once More Unto the Breach, Dear Friends: More Regulatory Overreach by the FTC

Cite this Article
Daniel J. Gilman, Once More Unto the Breach, Dear Friends: More Regulatory Overreach by the FTC, Truth on the Market (April 25, 2024), https://truthonthemarket.com/2024/04/25/once-more-unto-the-breach-dear-friends-more-regulatory-overreach-by-the-ftc/

Go big or go home, they say. It’s not really an either-or choice: one can go big, and then go home. Not infrequently, an attempt to go big is what gets one sent home. 

The Federal Trade Commission (FTC) swung for the fences in April 23’s open meeting. On purely partisan lines, the commission voted 3-2 to adopt a competition regulation that bans the use of noncompete agreements (NCAs) across much of the U.S. economy. With a few small wrinkles, it’s just what the FTC had proposed to do—also by a purely partisan vote—in its January 2023 notice of proposed rulemaking (NPRM).

The proposed rule was indeed sweeping, and bound to be controversial, as my colleagues and I explained in extensive comments to the record. Among those who joined our comments from the International Center for Law & Economics (ICLE) were 25 independent scholars of law and economics, including two former directors of the FTC’s Bureau of Economics, two former chief economists from U.S. Justice Department’s (DOJ) Antitrust Division, and a former FTC general counsel. 

We were far from alone. 

Nobody has suggested that there are no reasons to be concerned about NCAs. As we explained in our comments:

NCAs may be overbroad, inefficient, or otherwise objectionable. While most policy concerns regarding NCAs are not antitrust concerns (and most NCA-focused litigation not antitrust litigation), a given employer might possess significant market power in one or more specific local labor markets, and might exploit that market power to, e.g., foreclose entry or expansion by would-be competitors. In that regard, a specific NCA, under specific facts and circumstances, might well prompt antitrust concern and, potentially, a finding of liability. 

But that’s not what the FTC’s sweeping NPRM promised. 

It was easy to predict that a final rule bearing any resemblance to that proposed in the NPRM would be challenged in court. I wrongly thought it would take a whole day or more for the complaints to appear. The open meeting didn’t even start until just after 2 p.m. ET, and various preliminaries preceded the actual vote. 

Yet the pump had been primed: this brief was filed almost immediately by a private party (represented by former U.S. Labor Secretary Eugene Scalia) in the U.S. District Court for the Northern District of Texas; and a coalition brief was filed by the U.S. Chamber of Commerce in the Eastern District of Texas the following morning. 

Going out on no sort of limb at all: plenty more will jump on that bandwagon. 

Because if you build it, they will come. And if you overreach by . . . oh, a lot, they will come fast and furious. This one is headed for the Supremes. You read it here first, provided you didn’t read it anywhere else, as you might well have done.  

For those interested, but not yet up to speed, I recommend our comments, among others filed, including these by the Global Antitrust Institute (submitted by a former director of the FTC’s Bureau of Economics, a former deputy U.S. assistant attorney general for antitrust, and former FTC and DOJ economists). I’m not going to pretend to rehash all of that, or even provide a comprehensive list of significant comments. I’ve posted about it often, if not quite ad infinitum, but I’m not going to cite or link to all of those either. 

Not today, that is. The misrepresentation of the state of empirical research, the comically implausible estimates, various statutory and constitutional challenges to the rule, etc. We’ll get back there, if not today. 

Rather, I want to focus on a couple of wrinkles, as I mentioned above. What wrinkles, you ask? 

First, how is this rule different from the proposed rule? Well, not very much, although there are a couple of wrinkles that were anticipated as potential changes in the NPRM. First, the NPRM proposed an exception for the general NCA prohibition in the case of the sale of a business. Persons (human, corporate, and otherwise) might not want to buy a business if the previous owners can simply walk across the street and set up a competing business immediately. NCAs in that context can facilitate commerce more than they restrict it.

Even California’s broad statutory ban on the enforcement of NCAs has an exception for the sale of a business (or its “goodwill” or all, or substantially all, of its assets, or those of a division, etc.). Curiously, the NPRM stipulated a 25% share restriction that neither California nor any other state has adopted. It’s not clear where it came from. Thin air? 

The final rule maintains the sale-of-business exception, but drops the arbitrary 25% share requirement. That’s likely a helpful change, even if the FTC’s insistence that the sale be a “bona fide” sale is not entirely clear, and even if the commission expressly declines to recognize that such NCAs are not anticompetitive. 

Second, “The final rule allows existing non-competes with senior executives to remain in force.” Only existing NCAs (those entered into prior to the rule’s effective date). The FTC still maintains that “non-competes with all workers are an unfair method of competition.” But those with senior executives—presumably, already bargained for—are left in place because, although they are deemed “unfair methods of competition . . . [t]he Commission does not find that non-competes with senior executives are exploitative and coercive.”

Alrighty, then.

The new rule defines “senior executives” as workers “in a policy-making position” whose total annual compensation was “at least $151,164 in the preceding year” (but not including “payments for medical insurance, payments for life insurance, contributions to retirement plans and the cost of other similar fringe benefits”—so, not really “total compensation” at all.) The number is clear enough. “Policy-making position” is less so, and might be more-or-less restrictive.

Anything Else?

As the FTC acknowledged in the NPRM, and with considerably more obfuscation in its final rule, the FTC’s jurisdiction is limited with regard to nonprofit entities, and many hospitals, hospital systems, and provider networks are nonprofit organizations. 

I’m sorry if “considerably more obfuscation” seems churlish. The FTC is correct in pointing out that not all entities claiming 501(c)(3) tax status are “categorically” beyond the reach of Section 5 of the FTC Act. The final rule rightly cites, e.g., an 8th U.S. Circuit Court of Appeals opinion from 1969, Community Blood Bank of Kansas City Area, Inc. v. FTC, which rejects such a categorical immunity or, at least, a categorical immunity based on the mere form of corporate organization or claim of 501(c)(3) status. As the FTC states in the NPRM, “[m]erely claiming tax-exempt status in tax filings is not dispositive.”

So far, so good.

As the court held, definitions in Section 4 of the FTC Act clarify the scope of Section 5, such that:

under § 4 the Commission is vested with jurisdiction over nonprofit corporations without shares of capital, such as trade associations, which “carry on business for their own profit or that of their members,” within the traditional and generally accepted definition of the quoted phrase.

But not over:

nonprofit corporations without shares of capital, which are organized for and actually engaged in business for only charitable purposes, and do not derive any “profit” for themselves or their members within the meaning of the word “profit” as attributed to corporations having shares of capital.

Not for nothin’, but the FTC lost the 8th Circuit case they cite. The court rejected both the FTC’s proffered account of its jurisdiction and, in particular, its jurisdiction over the Community Blood Bank of the Kansas City Area, and all of the other petitioners in the matter. Because the blood bank was, in fact, operating as a community blood bank. 

In plain English, the courts have held that it’s about function over form; that is, jurisdiction is a question of what the entities do, not just what they say (or how they self-identify). So a nonprofit hospital that really operates as a hospital is not a “corporation” under Section 4 of the FTC Act, and hence not subject to Section 5 of the FTC Act, which applies to “persons, partnerships, or corporations” (unless those persons, partnerships, or corporations are banks, common carriers, or others on the list of express exceptions in Section 5).

The FTC might rightly exercise jurisdiction over for-profit providers or, say, a trade association representing the business and nonbusiness interests of both for-profit and nonprofit members (that’s the 2nd U.S. Circuit Court of Appeals’ AMA v FTC case from 1980). And, as the NPRM points out, the commission could exercise Section 5 jurisdiction over a physician-hospital organization “which consisted of over 100 private physicians and one non-profit hospital,” and engaged in business [allegedly price-fixing] on behalf of those for-profit physician members.

But a hospital or system organized as a nonprofit and operating essentially as such—nope. As I noted above, many hospitals, hospital systems, and provider networks are nonprofit organizations. The Cleveland Clinic, the Mayo Clinic, the Johns Hopkins Health Services Corp. (in Maryland, D.C., Florida, etc.) and, very likely, the general hospital, children’s hospital, university hospital, or other tertiary care center closest to you, dear reader, along with their various satellites, outpatient and ambulatory care clinics, etc.

While we’re at it, so are public health facilities, such as the 1,321 facilities operated by the Veterans Health Administration (VHA), which provide health services to some 9 million veterans each year.

The FTC’s account of their health-care-services jurisdiction rightly identifies exceptions to the nonprofit carve-out from the FTC’s broad grant of jurisdiction under the FTC Act. But the overall account of its jurisdictional limitations seems considerably less helpful than it ought to be. One might even say it is—at least, arguably—misleading, even if it’s not literally false. It focuses on the exceptions (to the exception), as it were, but not the rule. And it doesn’t say much, even roughly or provisionally, about which health-care providers are safe. 

But wait, don’t they review hospital mergers? Indeed they do. Properly so. And as I’ve pointed out before, they’ve tended to do it in a serious and useful way over the course of at least a couple of decades.

But that’s not about Section 5 or the nonprofit exception. Instead, it’s because the FTC need not rely on Sections 4 and 5 of the FTC Act to conduct merger review. The primary U.S. merger law is the Clayton Act—specifically, Section 7 of the Clayton Act. And as the FTC has long argued (and as, e.g., the 11th U.S. Circuit Court of Appeals held in FTC v. University Health), the FTC’s ability to enforce Section 7 of the Clayton Act is not subject to the same limitations as its ability to enforce Section 5 of the FTC Act. So, merger scrutiny is fine. 

But to get at vertical agreements between employers and employees—such as NCAs between hospitals and physicians, nurses, or technicians—they need Section 5. And if it’s a nonprofit hospital, they cannot have it. 

In a “fact sheet” accompanying the rule, the FTC states that: “Health care costs will be reduced by $74-$194 billion over the next decade in reduced spending on physician services.” They neglect to say “all else equal,” but no matter–it’s not a reliable estimate, in any case. Of course, it’s quite a range, if less ambitious than that in the accompanying announcement, which simply states that the rule “is expected to lower health care costs by up to $194 billion over the next decade.” 

To be fair, $74 billion falls neatly in the range of “up to” $194 billion. So does $74. Or $7. But really, they have no idea–no very good one at any rate.

First, as noted in ICLE’s comments on the proposed rule, the FTC’s NPRM cited only one empirical investigation of the impact of NCA “enforceability” (not NCAs directly) on downstream health-care prices. That was, in fact, their only evidence for downstream price effects across industries. As noted in our comments, and explained in some detail in my recently published peer-reviewed article on physician NCAs, the study in question is both interesting and useful, but:

  1. One good and useful paper does not a body of literature make;
  2. A good paper can be good for all sorts of reasons, and might well have results of limited generality or questionable accuracy;
  3. The paper is subject to significant data and methods limitations (and, among other things, does not employ market definitions or analytic methods commonly used by the FTC staff in provider merger reviews); and
  4. Consequently, it results in estimates of questionable generality (and, indeed, questionable plausibility).

The FTC staff knows this. 

Second, in a footnote, the commission allows that it “cannot predict precisely how many entities claiming nonprofit tax-exempt status may be subject to the final rule.” Indeed. Not with precision. Roughly? They don’t say and they don’t know.

But if they don’t know the extent to which the rule will (and will not) apply to health-care providers, how can the commission estimate the health-care savings that are supposed to flow from the rule? Poorly?

I think it’s fair–perhaps even kind–to say that the FTC is overselling the likely benefits of its new rule. They know very little about the likely impact of their new rule on downstream product and service prices in any industry, much less across all of them. More simply, they know very little about the rule’s likely impact on consumer welfare. And not just on consumer welfare.

That’s not to say that there will be no benefits. But, in brief, the FTC has little basis on which to estimate the likely costs or benefits of its new rule.

They may not care so much about consumer welfare, but consumers do. And so does antitrust.  

One more thing, in passing: The FTC waives away arguments that some–perhaps many–NCAs protect legitimate business interests, such as protecting trade secrets and other proprietary information (and thus encouraging efficient sharing with employees). The commission suggests that such interests can be adequately protected by substitute mechanisms, such as trade-secret agreements, without the costs associated with NCAs.

But that’s pure conjecture: it’s not substantiated by any cited research about the effectiveness or efficiency of trade-secret law. And a recent study by Brad Greenwood (a professor at George Mason University), Bruce Kobayashi (also a professor at George Mason University and, not incidentally, former director of the FTC’s Bureau of Economics and an ICLE academic affiliate), and Evan Starr (a professor at the University of Maryland and, as it happens, a leading contributor to the economic literature on NCAs–and an author heavily cited by the FTC) is at odds with that suggestion:

…in sum, this evidence suggests that NCA and trade secret litigation are complements, and not substitute approaches to protecting valuable firm knowledge.

This is all rather disheartening. Labor-market competition is a legitimate area of concern, if one that wants considerably more research and enforcement experience. Some NCAs may, indeed, be anticompetitive, while others may violate other laws or raise other policy concerns. Health-care competition is, indeed, important to consumer welfare, and there are well-established tools with which to protect it.

But the rule the FTC has adopted lacks an appropriate focus; and it doubtless exceeds the agency’s proper authority. The final rule is more frolic and detour and, while we’re piling on metaphors, smoke and mirrors. The FTC is ill-equipped to enforce its over-reach of a rule, and the ensuing litigation will further detract from the FTC’s legitimate and, indeed, important mission.

It might well result in some very clear precedent limiting FTC authority beyond the rule itself, and well beyond the tenures of Chair Lina Khan and Commissioners Rebecca Kelly Slaughter and Alvaro Bedoya. Some might say that’s all for the best. I don’t.